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Now for the glut

Petrochemical supplies are still rising but demand growth is less certain than it was

IN JUBAIL Industrial City, a huge new petrochemical cracker unit is being brought on line. The unit, being built by Sadara Chemical Company, will be the Middle East's first mixed-feedstock cracker, and part of the largest chemical complex ever built in a single phase, consisting of 26 chemical-manufacturing units. They will produce 1.5m tonnes a year (t/y) of ethylene and around 400,000 t/y of propylene.

Sadara will crack naphtha - an oil-derived feedstock - as well as ethane; and the decision to build it was made four years ago, with one big target in mind: China's roaring economy and its massive consumer market.

Indeed, Asia remains the big hope for petrochemical producers and exporters. ExxonMobil thinks total global demand for petrochemicals will rise by around 45% between now and 2040, helped along by population and economic growth. Asia-Pacific on its own should account for two-thirds of this increase.

A bigger, urbanised middle class will want more products made from petrochemicals, said Neil Chapman, head of ExxonMobil Chemical Company, in March - "everything from packaged goods to automobiles to appliances".

Price fall

But not everything is as rosy as the longer-term outlook implies. China's slower economic growth has brought the global petrochemicals sector some new anxiety, and big investments sanctioned some time ago - designed to meet the needs of its fast-growing market - are all now coming on stream around the same time. So while the distant future still looks promising, the problem for exporters is the medium term. Repeating the story seen in crude oil and refining markets in recent years, a petrochemicals glut is beginning to appear.

Prices have slumped and planned projects in lower growth areas like Europe have already been shelved. Last year, global production capacity for base chemicals - the main building blocks of consumer goods - was 0.587bn tonnes, according to IHS, a firm of analysts. This was a staggering 129m tonnes more than the world's total demand for ethylene, propylene, chlorine, benzene, paraxylene and methanol in 2015, IHS said.

And the glut is only going to worsen over the next four years.

Global base chemical capacity is expected to reach 0.640m tonnes by 2020, according to IHS. To get a measure of the growth, consider that total installed capacity in 2000 was just 240m tonnes.

Demand for polyethylene - the most commonly used petrochemical for plastic - is still ticking higher, and should rise this year alone by 3.1m tonnes, to over 86m, according to analysts at pricing agency Platts. Wood Mackenzie, another energy forecaster, expects consumption of polyethelene to rise by 17m tonnes between 2015 and 2020, led mainly by China.

Although access to cheap feedstock has historically made the Middle East the main source of new petrochemicals capacity, a wave of new North American projects is now on its way

 

But supply is more than ample over the medium term, thanks to projects sanctioned a few years ago and now coming to fruition. Although access to cheap feedstock has historically made the Middle East the main source of new petrochemicals capacity, a wave of new North American projects is now on its way. The continent will account for a third of the 17m t/y of new polyethylene capacity added between now and the end of the decade, says Wood Mackenzie. China, the Middle East and India will add smaller chunks.

The US' supply-side surge is a product of its access to cheap natural gas. Shell, for example, is planning to build a new petrochemicals complex including an ethylene cracker and polyethylene derivatives unit, near Pittsburgh. Construction should begin in 2018, for start-up early next decade. The plant will use low-priced ethane from the Marcellus and Utica shales to produce around 1.6m t/y of polyethylene to supply markets in Latin America, Europe and Asia.

Even European petrochemicals producers have taken advantage of lower-cost US shale gas. Ineos, a big Swiss firm, has started importing ethane from the US northeast to its crackers in Europe.

Market movement

But while the new capacity is coming on line, the market's dynamics are shifting. Two forces are largely in play: China's economic transition and the change in feedstock pricing.

China's move from a manufacturing and export-oriented economy to one based on domestic consumption is a development that few in the global petrochemicals industry expected - and because their demand models are so heavily based around rising Chinese consumption, it's causing lots of uncertainty.

The recent numbers are ugly. China's polyethylene imports fell 3% in the first quarter of 2016, or by 2.4m tonnes, compared with the same period last year, says Platts. The country's polypropylene imports - used in a wide range of plastics and packaging - were also down by almost a quarter, to 1m tonnes. This is mainly because of a rise in China's own production capacity.

Still, no one is writing off the country's market as the main driver of global demand just yet. "If you peel away GDP numbers it's really about the heavy industry side that's slowed down," says Dave Witte, an analyst at IHS Chemical. "On the consumer side we're seeing huge sales of iPhones and lots of petrochemicals going into non-durable goods." And anyway, "absolute tonnage is higher because the market is getting bigger", Witte says.

But the changes in feedstock economics - themselves a reaction to market forces further upstream - have also caused some shifts in the global petrochemicals business. Between 2009 and 2014 the industry was able to rely on a fairly predictable pattern as energy markets were ruled by high oil prices and low US natural gas prices, thanks to production from shale. In 2014, plants in regions using gas-based feedstock saw substantially higher profits than those using oil-based ones.

But last year saw a dramatic shift in relative production costs and competitiveness as oil markets sank, narrowing the spread between oil and gas prices. Not long ago, gas-liquid-based plants in North America could produce their petrochemicals for about $1000/t less than oil-based ones in Western Europe or Asia Pacific. Last year, the advantage had slipped to around $500/t.

"While still substantive, the gap between gas-liquid economics and naphtha economics was more than cut in half in just one year," Witte says. "In addition, the increase in Saudi Arabian gas and ethane prices moved Middle East average cash costs above the US Gulf Coast."

If the recent recovery in crude prices - an 80% rise from January lows to June highs near $50/b - lasts, it could shift this balance again, by widening the price gap between oil and gas for feedstock. But price volatility isn't welcome.

"Directionally, higher crude prices will disadvantage naphtha cracking and support projects based on shale gas and coal," says Matthew Kuhl, an analyst from consulting firm KBC Advanced Technologies.

Kuhl points to BASF, a big German petrochemicals producer, which recently shelved a plan to build a US Gulf Coast methane-to-propylene project because the price spread between oil and natural gas prices was too narrow.

The changes in feedstock economics – themselves a reaction to market forces further upstream – have also caused some shifts in the global petrochemicals business

 

None of these gyrations has been terribly good for the sector's earnings. Globally, they will fall by about 10% this year, expects IHS. Last year, they dropped by 15%. And with so much capacity coming on stream during a period of less-certain demand growth, the petrochemicals sector can already see the cyclical forces that will make life difficult for a while, but eventually lead to a price recovery.

As with upstream oil, capital spending is a casualty. Indeed, the sector has not seen "such a high degree of uncertainty for many years", says Mark Eramo, an analyst at IHS. It "seems to have caused a collective pause in the approval of the next wave of projects, which by 2020 could result in supply limitations not seen since the late 1980s."

In fact, by 2024 the market will even be in deficit, predicts Platts, with polyethylene demand of 119.2m t/y exceeding supply by around 1m t/y. By 2026, demand will have reached 129m t/y, leaving the market 10m t/y shy.

That's not great comfort for the near term, when petrochemicals profits are expected to remain weak. After 2020, though, stronger oil prices should make gas-based feedstock even more competitive and producers will have a tighter market to supply. Demand by then should have caught up - if big consumers keep growing as forecasters expect.

"It's about facing up to a world of lower growth," says Gordon Haire, an analyst at Wood Mackenzie. "The key thing is what will China do? What's the realistic outlook for demand?"

To be on the safe side, he suggests, producers should make investments for competitiveness, rather than for growth.

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