By John Richardson and Malini Hariharan
Cautious optimism first gave way to mounting anxiety over the prospects for the second half of this year, but now the mood surrounding China's polyolefins market is downright pessimistic.
"It is going to take a few months to clear up polyolefin inventories and volumes from new plants," Mazlan Razak, Kuala Lumpur-based consultant with DeWitt & Co said recently. "We are looking at probably sometime in the second half of 2011.
"Asia will have to rationalise production in August. Integrated crackers are still doing OK in terms of margins. But even if operating rates are cut to 85-90% you still have bigger Middle East volumes to contend with. The market is fundamentally weak and directionally it is not looking good."
Northeast Asian cracker operating rates will be cut by 5-6% with overall rates across Asia reduced by 1-3%, estimated N Ravivenkatesh, Singapore-based refining consultant with Purvin & Gertz in his latest Asian petrochemicals feedstock report.
He, like everyone else we have spoken to over the past two weeks, points to a toxic combination of stronger output in China and the Middle East and weak demand in China as being behind expectations of rate cuts.
"Polyolefin markets in China are very soft with producers having no choice but to push material at whatever price," added a source with a major South Korean producer.
"So far there have been no rate cuts in Asia, but at end-July/August it is possible that marginal producers will cut operations."
July-August was normally a hot season for the manufacture of household goods in China, he added - reflecting a widespread hope that demand might be about to pick-up to help consume extreme overstocking in polyethylene (PE).
"So far we haven't seen positive signals. In automobiles in China, inventories are 45-60 days, which is not much," he said.
"But customers in the construction sector have high stocks of pipes as a result of a slowdown in the real estate sector. If this continues, the government may remove controls to boost the construction sector."
Concerns over the success of Beijing's clampdown on the property sector are being widely voiced in the media, with one senior government official quoted as predicting earlier this month a steep property-price fall .
Relaxation of the measures might deliver a vital shot in the arm to the chemicals and polymers sector in general, as real estate in China is so important for the overall economy.
But the risk being apparently debated at senior central government levels is that easing restrictions too soon could create an even bigger property bubble in the future.
Back to the plight of Asia's cracker operators and the ICIS Weekly Ethylene and PE Margin Reports point to a sharp deterioration in variable margins since the first quarter of this year.
Naphtha-based northeast Asian (NEA) ethylene margins were averaging just $209/tonne for the third quarter on 16 July, compared with $378/tonne in the second quarter and $474/tonne in the first, according to ICIS.
Part of the decline is the result of increased ethylene availability in Southeast Asia -the result of the start-up of the Shell Chemicals cracker in Singapore, which is in C2s surplus.
Another factor has been increased spot sales from the Middle East due to production problems at one plant and commissioning of a new cracker ahead of associated downstream start-ups.
But Middle East shipments have also risen due to PE rates being cut in the region due to poor demand in China, added Ravivenkatesh.
And the PE margin story reflects the pressure being exerted upstream on ethylene: Integrated injection grade high-density PE (HDPE) margins in northeast Asia for the third quarter averaged $294/tonne on 16 July as against $377/tonne in the second quarter and $398/tonne in the first.
So why has the outlook become so bleak so quickly, just a few weeks after senior executives were talking at the Asia Petrochemical Industry Conference (APIC) in Mumbai of new levels of demand limiting the downside potential?
With the benefit of hindsight, here are two factors that we are told are behind the about-turn.
The macro-economy was always going to be a threat and delegates at APIC had included the proviso that events out of their control could wreck the rosy outlook. So it seems to have happened with weaker European and US prospects and slower growth in China. Anecdotal reports of the China slowdown were confirmed last week with the release of the second quarter gross domestic product (GDP) growth number
And production at new Chinese polyolefin plants seems to have been stabilised quicker in the first half than Middle East start-ups last year. This stabilisation occured as traders increased imports in March on the belief that crude oil would go higher - a reason for the high stock levels
Last year was also an exceptional year in China because of what Paul Hodges, UK-based chemicals consultants with International e-Chem, called the "desperation of the giant stimulus package".
This brought forward growth from future years, and created the unsustainable inflationary pressures that have led to tighter lending conditions in general, including those affecting property, he added.
Staggering demand-growth numbers for polyolefins in 2009 could have largely been down to this temporary economic boost, re-stocking and the decline in the use of recycled materials.
Has overconfidence led to companies over-promising to investors? If so, some deep operating rate cuts might be necessary, both to restore investor confidence and drag markets back towards a more balanced position.