By John Richardson
The tail has long wagged the dog in Asia’s polyethylene (PE) market. Whilst the spot merchant ethylene market accounts for only around 5% of the total amount of ethylene that is produced in the region, ethylene spot prices drive polyethylene (PE) spot prices – with just about everyone buying and selling PE on a spot basis.
(The other 95% or so of Asian ethylene is either sold on contract, mainly by pipeline, or is produced internally – by PE producers who integrated through to crackers)
The distorting role that the ethylene spot market plays helps explains the chart below. As you can see, ethylene prices have risen very sharply this year on a tight C2s spot market. This, along with stronger crude (see my comments on crude later in this post), has pushed PE prices higher.
There is a school of thought that spot C2s will remain firm into 2016. This is based on the argument that there is no sign of the investment necessary to relieve this year’s structural tightness in the Asian spot market, which is the result of the start-up of several standalone styrene monomer plants. Temporary factors that have also made ethylene market tight – which, of course, may or may not go away over the next few months – are:
- Unexpected mechanical issues at some of Asia’s older crackers at the start of the year. Some Asian crackers also then ran harder to meet ethylene demand, which resulted in further outages.
- A heavy cracker maintenance season in Asia.
- Gas feedstock supply issues in several Middle East countries. This has resulted in reduced ethylene exports from the region.
“It would cost several hundred million dollars to add more merchant ethylene supply, and I don’t see anyone in Asia who has the appetite to do that right now. Without this investment, the spot market will remain very exposed to the risk of a sudden tightening of supply.” said a source with a major global PE producer
Firm ethylene prices into next year might result in continued strong margins for integrated PE producers. As the second chart below shows, integrated PE margins so far this year have been very good.
NEA film-grade low-density PE margins have been at $601/tonne so far this year, almost double their level for the whole of 2015. And so far in Q2, NEA high-density PE injection-grade margins have been at their highest level since Q1 2006.
Reduced Asian and Middle East cracker operating rates are reported to have not only affected ethylene markets. PE, too, is said to be tight because these cracker complexes have had to also cut back on derivatives production.
New PE capacity is also thought to be insufficient to meet global demand growth until around H2 2017, when the big wave of new US capacity is expected to start hitting the market.
But here’s the thing: I get the feeling that PE isn’t actually that tight in Asia. Instead, it just feels tight to a lot of people because of firm ethylene prices.
And what about demand? It continues to be described as at best stable and OK and at worst weak across Asia. You must therefore ask yourself this question: Are today’s PE prices affordable for most plastic converters in Asia? The answer is “No”.
As long as the current weak macroeconomic fundamentals persist – and, in fact, they are likely to get much worse – many plastic processors will be waiting for the opportunity to recover their losses by pushing prices lower.
One obvious opportunity to do exactly this is if oil prices register another sharp decline.
Yes, as I said, stronger ethylene prices have helped drive PE higher, but the other big factor in the rebound has been the rise in oil prices since mid-February.
Converters have gone from buying resin on a “hand-to-mouth basis”, to stocking-up on the assumption that oil, naphtha and so PE prices will go higher. Adding momentum to this inventory-building process has been the tightness in ethylene – and the perception that PE itself has been in short supply.
But a Greek debt default later this week might pull the trigger on oil markets, resulting in another destocking process in PE.
You might well ask, “What has Greece got to do with the supply and demand fundamentals of oil? After all, Greece is only 2% of EU GDP.” But this ignores the fact oil markets are still being driven by financial speculators, who could panic if Greece defaults on its debt.
A final nuclear deal between the West and Iran by the 30 June deadline also has the potential to further expose the underlying length in physical oil markets. What’s the takeaway from all of this as you had to your next planning meeting? It is this:
- The success that Asian PE producers have enjoyed so far this year has been down to a healthy and welcome dose of good luck.
- This good luck might just last for a few more months, but don’t count on it.
- Instead, build a scenario where demand and prices correct.
- How will your business look if this happens? Are your ready for the New Normal?