Wrong assumptions on China growth and oil prices mean danger lies ahead for refiners and polymer producers

Oil markets

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China PE, PP Jul16It could be a very difficult H2 for anyone involved in the Asian oil and polymer markets.  And given the global importance of these markets, everyone around the world will also feel the impact.  The issue is that most business strategies have been based on 2 increasingly unlikely assumptions:

  Companies all assumed that oil prices would stay at $100/bbl or higher forever
  They also assumed that China’s economy would grow at double digit rates forever

It would have been hard enough if just one assumption had been wrong.

If oil prices had remained high, then companies based on natural gas might still have hoped to do well.  If China’s demand had remained strong, then at least it would have been able to buy some of the planned new production.  But as both assumptions seem likely to be wrong, companies have few places to hide:

  China’s slowdown means that its gasoline and diesel exports are soaring. Gasoline exports rose 75% in H1 to 4.45 million tonnes, whilst diesel exports more than trebled to 6.6 million tonnes
  The collapse of oil prices means that US polymer producers no longer have a major cost advantage versus oil-based producers in Asia and Europe

The end result of these two developments is likely to be chaos in oil and polymer markets.

  Profits are already collapsing in Asian refining markets – they are down 83% since the start of the year and were just $2.21/bbl this week. And China is not the only country boosting its exports – India’s gasoline exports are up by nearly a quarter this year, whilst Saudi Arabia’s exports were up 76% between January – May.
  Similar changes are taking place in China’s polymer markets, as the charts show. China’s polyethylene imports rose just 2% in H1 versus 2 years ago.  Its polypropylene imports actually fell by nearly a quarter over the same period, as it ramped up new capacity based on very cheap imported propane.

And the underlying problems of too much supply chasing too little demand are likely to get worse, much worse, as we head into 2017, when all the new N American PE capacity will start to come online. Where will it all be sold is the big question?  Can it all be sold?

Of course, the position might turn around if central banks do a mega-stimulus programme involving ‘helicopter money‘.

But the nightmare scenario for these producers is that the collapse of gasoline and diesel margins will now cause refiners to cut back production. In turn, this will further pressure oil markets – which are already struggling to cope with record high global inventories – and cause prices to return to parity with natural gas prices.

None of these concerns are new.  I first raised them in a detailed analysis in March 2014, titled US boom is a dangerous game, when I warned:

“Shale gas thus provides a high-profile example of how today’s unprecedented demographic changes are creating major changes in business models. Low-cost supply is no longer a guarantee of future profitability. Any company sanctioning new investment without a firm guarantee of future offtake therefore risks finding itself landed with an expensive white elephant for the future.”

Unfortunately, however, consensus thinking preferred the analysis first described by Voltaire’s Candide – “that everything was for the best, in this best of all possible worlds“. Refiners and polymer producers could now find themselves in a very difficult situation as a result.

 

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