INSIGHT: Europe chlor-vinyls tremble on construction and economy

16 November 2011 16:06  [Source: ICIS news]

By Abache Abreu

House building in GermanyLONDON (ICIS)--Economic uncertainty and fears of a double-dip recession are shaking the European chlor-vinyl market as the negative sentiment in the key downstream housing sector continues to destabilise supply and demand balances.

There is little hope for a turnaround in construction activity, which accounts for more than 50% of polyvinyl chloride (PVC) consumption. With an average output growth in the first eight months of 2011 of 0.4% in the EU27, according to statistics agency, Eurostat, the sector has barely offset the consequences of the 2010 downtrend, let alone the collapse suffered when the credit crunch crisis hit in 2008.

Plummeting consumption levels in the PVC market have led to a drastic reduction in the output of feedstock chlorine as well as shrinking supplies of caustic soda, a co-product of chlorine, and sent spot prices soaring to levels not seen since 2009, a year remembered as one of the worst on record for the European chemical industry and the PVC market in particular.

High ethylene and energy costs and low demand in the PVC market have also driven the European ethylene dichloride (EDC) and vinyl chloride monomer (VCM) spot markets to stagnation as PVC producers are reluctant to purchase high-priced feedstock when they are not confident they will manage to pass the cost of these through to the PVC market.

Taking into consideration the strong connections between general economic cycles and the construction industry, which has seen a drastic decline in production and workforce since 2008, it is hardly surprising that trade of PVC in Europe continues to disappoint market players as the EU struggles with the worst economic challenge in its history.

This global financial crisis has reached a scale not seen since the Great Depression, leading to the collapse of financial institutions, the bailout of banks and nation states, and a significant decline in global trade and economic activity.

Recent optimism in the global capital markets over moves towards further fiscal integration in the eurozone have been once again brought to a halt, following  political unrest in Greece and Italy and fears that problems might spread to France and Spain after their debt risk premiums shot to record highs on Tuesday.

The debt crisis has now spread to 12 of the 17 eurozone members, with only Germany, Luxembourg, Holland, Finland and Estonia being able to maintain premiums below 180 basis points (BPS).

In the meantime, the grim outlook continues to spread beyond countries using the euro, with the UK said to stand a 70% chance of falling back into recession if European leaders do not find a fast solution to the sovereign debt crisis, according to a recent study by the National Institute of Economic and Social Research (NIESR).

Fragile economic conditions and difficulties in obtaining credit have continued to dull activity in the housing market, a key end-user sector for the chemicals industry and the PVC market in particular, as economic troubles undermine consumer confidence and deter investment.

PVC activity is around 15% below 2010 levels, according to one producer, while margins are equivalent to those in 2009, a year which saw the construction sector shrink by an estimated 8.4%.

The €20/tonne decrease in the November ethylene contract price has offered little chance of recovering PVC margins. Major PVC producers are anticipating decreases of up to €35/tonne for November contract prices on slow demand, limited export opportunities and the beginning of the destocking cycle.

Efforts to offset low domestic demand with exports have been undermined by softening Asian and US prices and negative sentiment in the global economy, with European FOB (free on board) prices falling by almost $400/tonne since June 2011.

One supplier said material is becoming less and less competitive the further away it moves from Europe and the more it enters the US dollar areas of influence, especially since feedstock ethylene contract and spot prices have dropped substantially in the US.

Upstream, efficiency struggles and strong international competition in the ethylene market are also having a knock-on effect on the vinyl chain, particularly since downstream PVC producers’ attempts to implement increases in line with upstream price developments have been by and large frustrated by poor market conditions.

Lack of global competitiveness has placed downstream PVC players at a global disadvantage, especially when considering the logistical difficulties involved in transporting ethylene across regions.

High energy costs combined with strict environmental legislation are also undermining competitiveness, with the Association of Petrochemical Producers in Europe (APPE) suggesting that the EU’s post-2013 emissions trading system (ETS) could lead to the closure of almost 10% of the region’s ethylene plant capacity.

Finally, whereas ethylene overcapacity has acquired a global dimension, demand in Europe is expected to grow much more slowly than in other parts of the world, not only because of its sluggish economic recovery but also because some of the ethylene’s downstream markets have moved part of their manufacturing activities to faster growing economies, expecting to be supplied with chemicals at their new location.

High ethylene and energy costs combined with slow demand in downstream PVC have brought the European EDC and VCM spot markets to a standstill. Trading activity for both products has depended on the outcome of PVC negotiations, which have been largely unsuccessful as poor market conditions continue to cap potential increases.

Recent negotiations in the market for EDC – 95% of which is consumed in the VCM market – have brought prices down to the high $200s/tonne FOB WE (western Europe). However, these values are still unattractive for those who are not under severe pressure to purchase as there is very little margin once the conversion to PVC is complete.

The spot market for VCM, 99% of which is used in the production of PVC and co-polymers, has become illiquid, with very little trade during 2011. There is no clear indication of pricing ideas as the current values of $750-780/tonne FOB NWE (northwest Europe) have stirred little buying interest, with consumers reiterating such figures do not provide enough netback once converted into PVC.

Equally, sellers of EDC and VCM are not tempted to produce any additional material with the intention of offering into the merchant market at such prices, given the high costs of ethylene and energy. As such, material is largely used captively, with bids and offers drifting further apart.

Cutbacks in operating rates in the PVC as well as in the isocyanates markets have led to a steady reduction in the output of chlorine, caustic soda and hydrochloric acid (HCl).

Average daily chlorine production in October for the region comprising the EU27, Norway and Switzerland fell to 25,692 tonnes/day, down by 3.5% from September, industry body Euro Chlor said on 10 November.

Year-on-year figures show that chlorine production in October was 796,446 tones, 1.6% lower than in the same month last year, while capacity utilisation was 74.4%, down from 77.0% in the previous month of 2011.

The European PVC market consumes around 34% of the chlorine production, while another 30% goes to isocyanates and oxygenates production.

The reduction in chlorine production has led to tightness in the market of co-product caustic soda, where availability has shrunk and spot prices soared to levels not seen since 2009.

Caustic soda stocks in October for the same region were at 242,103 tonnes, down by 2.6% from September, but up by 9.4% from the exceptionally low October 2010 levels of 221,109 tonnes.

The market is particularly tight in the Mediterranean, where spot prices have increased to $480-500/dmt (dry metric tone) FOB (free on board) MED (Mediterranean). Recent imports from the Middle East to the west Mediterranean market have eased tightness and improved supply and demand balances but availability is limited as most local producers are out of the spot market and are only able to meet their contractual obligations.

The northwest European caustic soda market is more balanced, although there is little product available for spot. Poor buying interest in the US east coast region has meant most vessels are currently being sent to the Mediterranean with prices at $430-460/dmt FOB NWE.

The caustic soda market is getting shorter by the day, a supplier said, and the annual market trend points to further tightening, as demand for PVC tends to slow in December and January in line with a fall in activity in the downstream infrastructure and construction sectors.

Recent production outages at two French manufacturing sites and low water levels on the Rhine are putting further pressure on the market.

In Germany, producers are experiencing logistical problems trying to transport product along the Rhine, which is a major European shipping route for chemicals and other commodities, including minerals, coal and oil products.

According to Germany's Federal Institute of Hydrology, water levels have decreased steadily since the middle of October in most areas of the country to extremely low levels for this time of year, limiting shipping space and the quantities barges are allowed to take

The effect on the already-tight caustic soda market is particularly strong as several caustic soda suppliers and buyers are located in the Rhine region and use the river to move product. Dry weather is expected to continue, with no rain due for at least another week, according to forecasters.

Slow demand and low operating rates in the PVC and isocyanates markets have also limited availability of co-product HCl in Europe. Tightness continues to keep trading activity subdued, while market participants expect little improvement until January at the earliest.

In conclusion, there is little room for optimism in the European chlor-vinyl markets as demand from the key construction sector has failed to recover during the traditionally-strong months of September and October, while the annual market trend points to a fall in housing activity in the months to come.

Price volatility and supply shocks throughout the chain are expected to continue, as escalating problems in the eurozone continue to hurt the global economy, leading to tight credit conditions, frail consumer confidence and low levels of investment.

($1 = €0.74)

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By: Abache Abreu
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