INSIGHT: Prices likely to track down with oil

10 August 2011 10:59  [Source: ICIS news]

By Nigel Davis

LONDON (ICIS)--On the financial markets it depends when investors feel confident enough to step back into shares. An analyst on Tuesday asked who would be willing to catch a falling knife.

But there are already indications of a mini-rally following the slump on global markets of the past week. Stock market indices in Europe moved higher on Tuesday and the Dow opened up on the Monday close. Chemicals stock prices rallied following steep falls.

But in this latest downturn, it has not been so much the magnitude of the slump on stock exchanges globally that has caught the attention but the speed of the fall.

The downgrade of US sovereign debt by Standard & Poor’s triggered the latest turn down in stock and commodity markets, alongside the ongoing struggle with the eurozone debt crisis.

The fundamentals behind the painfully slow recovery from the 2008–2009 crisis have been clear for a long time. High stock and commodity prices, particularly the price of oil, have built largely on the assumption that times are a lot better than they were.

No-one likes a bad story so no-one listens. But when the news is particularly bad, they sit up and take notice.

Fiscal stimulus underpinned market growth in 2009 and 2010 and the removal of this underpinning of demand growth has begun to bite.

Consumers and companies react by spending less. Government cutbacks put the brakes on economies with little or no forward momentum in the first place.

Clearly, the chemical industry has benefited greatly from the money pumped into the US, European and Chinese economies. It is one of the first to react to stronger industrial demand.

By the same token, it should be one of the first to respond to falls in physical market demand and to lower commodity (feedstock) prices.

Chemical markets in Europe and the US have been weakening since late in the second quarter. That became widely apparent as producers reported on a strong period but one that demonstrated the first signs of weakness for some time.

China’s important polyolefins markets had been weak since April and the impact was beginning to show. At the time the weakness in these markets was traded off to some extent by improving fundamentals in the US and in Europe.

But the extreme stock and commodity market nervousness of recent days has highlighted the uncertainty that overshadows both the US and other major world economies. The US is pulling slowly out of the 2008–2009 recession but could well dip back.

Germany’s encouragingly strong industrial growth in recent quarters was driven by exports – largely to the rest of Europe. As those exports weaken, so the gloss is taken off the industrial giant that is so important to the wellbeing of the European chemicals sector.

In chemicals all eyes must turn to China, a country that has provided so much of the growth for the industry since 2009.

A key question is whether China can, or indeed wants, to stimulate the economy in the way it did in 2008 and 2009. Inflation hit a three-year high in July, and bad debts are rising, so this looks difficult.

For weeks now there has been a recovery in petrochemical prices in Asia as local manufacturers gear up to feed products into the Christmas season market in the West.

Asian markets are also being supported by tight supply in polyolefins as a result of scheduled maintenance work and mechanical problems at plants in Saudi Arabia and Taiwan.

But as of Monday, confidence had evaporated. Traders were nervously eyeing their inventory levels as buyers stayed on the sidelines waiting to see when prices might bottom.

And given very weak consumer sentiment in Asia, it is hard to envisage a very strong peak manufacturing season.

The fact that producers and traders in Asia are now talking about when prices might bottom is a big change. Only a week ago they were talking about how much higher they might go.

This new bottom in the market is likely to be set by where oil prices settle.

John Richardson contributed to this article

Paul Hodges studies key factors influencing the chemical industry on the Chemicals & the Economy blog 
Read John Richardson and Malini Hariharan's
Asian Chemical Connections blog

By: Nigel Davis
+44 20 8652 3214

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