Chemicals “Spin” Will Continue



By John Richardson

THE reluctance of sell-side chemicals analysts to downgrade their forecasts should be severely tested by the Federal Reserve’s decision to downgrade its outlook for the US economy.

US GDP growth will now be only 2.7-2.9% in 2011 compared with the April estimate of 3.1% to 3.3%, Fed chairman Ben Bernanke told a press conference yesterday.

Even if GDP only comes in at this lower range it would still represent a second-half bounce: First-half growth is only expected to be around 2%, said investment newsletter Barrons.

One can therefore see a positive spin being put on a “recovery”. Temporary factors that have hurt growth in H1 – disruptions to industrial production caused by the Japanese earthquake, bad weather in the US and very-high gasoline prices – should recede in the second half.

So the sell-siders might stick religiously to their belief that all is well with the world – and that we are still heading for a chemicals Supercycle.

Further support for their argument could be provided by a quite likely rebound in petrochemical pricing in China, as the peak manufacturing season kicks-in.

The extent of a rebound would need to be measured against what happened last year, when we were in the midst of a strong recovery from the 2008 global financial crisis.

A recovery might also be the result of lower operating rates.

Production cuts have already taken place in Asia in response to a five-month lull in markets. Some Asian crackers are running at below 90% in June compared with more than 90% in May, said ICIS pricing late last week. Linear-low density (LLDPE) and high-density (HDPE) plants in Southeast Asia were on the verge of being closed-down because of poor margins, the blog was told two weeks ago.

There is a chance that no such pricing recovery will occur if higher Saudi Arabian crude output leads to the country raising petrochemicals production.

A further thought: If prices do stage a mini-rally despite Saudi Arabia increasing output, this might indicate very-deep rate cuts and plant closures among higher-cost Asian producers. What would this mean for the financial results, and therefore the equity values, of these higher-cost players in Taiwan, South Korea and Thailand?

But the bulls could still get their way in the second half, perhaps convincing a few banks to finance questionable additions to petrochemicals capacity. Project activity is ramping-up in anticipation of the next peak in the cycle, forecast for 2015-16.

Close attention should also be paid to other projections made by the Fed yesterday.

US GDP growth in 2012 would be between 3.3-3.7% as against the April forecast of 3.5-4.2%, Bernanke added.

More telling, perhaps, though, was the revision in the outlook for US unemployment to 8.6-8.9% in the fourth of this year, up from 8.4-8.7%.

Unemployment will be at 7.8-8.2% in Q4 2012 compared with the earlier expectation of 7.6-7.9%, said Bernanke.

A nice spin could again be placed on all of these numbers as they would still be down from the rate in May this year – 9.1%.

But Bernanke admitted: “Some of the headwinds that have been concerning us, like the weakness in the financial sector, problems in the housing sector, balance sheet and deleveraging issues, may be stronger and more persistent than we thought.”

You betcha – and so what are the odds on further downward revisions by the Fed over the next few months?

The blog maintains, as we discuss in our e-book and our New Normal seminars, that the headwinds Bernanke is talking about are being driven by long-term changes in demographics. We need to get used to new patterns of demand.

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