Quarterly Business Analysis Quarter 1 2008
STORM CLOUDS GATHERING FOR PETROCHEMICALS IN 2008
The first quarter has seen petrochemical markets in sombre mood, in stark contrast to the buoyant start in 2007. A dramatic slowing of the United States economy in the last quarter of 2007 raised concerns about the strength of the global economy, with growing turmoil in international financial markets and severely reduced consumer confidence stagnating demand. The heavy burden of feedstock costs on petrochemical producers was magnified as crude oil prices surged to new highs, trading above $100 per barrel. Weak markets and high production costs have depressed profitability of petrochemical producers well below the average achieved over the last five years.
Concerns over the strength of the global economy and the implications of slowing growth on petrochemical demand have intensified in the first quarter of 2008. Turmoil in financial markets resulted in a severe tightening in credit markets as the implications of the problems in United States sub-prime mortgage markets were realised. The health of the United States economy has been viewed with increasing pessimism, as annualised GDP growth in the fourth quarter of 2007 slumped to just 0.6 percent, its worst performance for some five years. Fears of a looming recession in the United States economy have prompted the Federal Reserve to aggressively cut interest rates by two percent in the first quarter.
Petrochemical demand growth generally eased at the start of 2008 as slowing consumption in construction spread to other industry sectors. Many buyers have been reluctant to purchase large volumes in fear of being stranded with over valued inventories as feedstocks traded at record highs. Despite purchaser’s hopes for an imminent reduction in prices, there has been little sign of any significant easing in feedstock prices.
Crude oil markets opened 2008 demonstrating renewed strength, breaking through the $100 per barrel mark in early January and defying an underlying fall in demand growth. The recent surge in crude oil prices has been heavily influenced by speculation in commodity markets rather than fundamental supply/demand issues. The September OPEC Conference viewed crude oil markets as “well supplied” and consequently decided to maintain production quotas. With the dollar weakened on lower interest rates, investment funds bought heavily into oil markets to hedge against currency risks and inflation. Average Brent crude oil prices through January and February climbed five percent over the closing quarter of 2007, to settle at an all time high quarterly average of almost $94 per barrel. Moving through March, crude oil has persistently traded above $100 per barrel, even setting a new record at $110 per barrel.
The heavy burden of feedstock costs on petrochemical producers intensified further at the start of 2008. Global naphtha prices followed strong crude oil markets, with average prices through February climbing more than five percent above the last quarter. CFR Japan naphtha prices set the ceiling to global prices, with a record high of $920 per ton in early March. Consumption of naphtha slowed as crackers and reformer operators reduced operating rates on poor margins. LPG prices eased considerably relative to naphtha, as mild winter weather reduced demand in heating applications. Propane and butane have traded at a discount to naphtha, offering a competitive advantage to operators of gas fed or flexible crackers.
While headline prices of crude oil and feedstocks traded in dollars have trebled in the last five years, the steady weakening of the dollar against other currencies has mitigated some of the cost pressure on regional producers. Consequently, many regional producers have only witnessed a doubling of oil and feedstock prices in their local currency since 2003. The weakening dollar has however considerably increased the competitiveness of exports from the United States, restricting the ability of regional producers to raise domestic petrochemical prices and challenging their competitiveness in export markets.
The weak market has hampered the ability of petrochemical producers to pass increased feedstock costs down the petrochemical value chains. Olefins producers were most successful in their negotiation of contract prices, with contracts in many regions increasing to record highs. Slowing demand however has contributed to lengthening markets, with spot prices falling below contract prices.
Petrochemical margins are showing signs of severe strain in many regions, after a year of ever increasing feedstock costs. For the last two consecutive quarters, average petrochemical industry cash margins in both the United States and Western Europe have fallen considerably below the average achieved over the past five years. Nexant’s global petrochemical industry cash margin index, which assesses average profitability of archetype Leader producers in Western Europe, the United States and Asia Pacific, has slipped to its lowest level in five years.
In the aromatics sector, reformer margins were particularly hard hit, slumping below variable cost breakeven as naphtha prices strengthened to record highs, climbing to a premium over gasoline. With slow seasonal demand for para-xylene in the polyester sector, integrated margins for para-xylene extracted from naphtha collapsed to an all time low in Western Europe. Acrylonitrile producers were lumbered with an unprecedented 60 percent increase in the cost of ammonia in the first quarter of 2008. Global ammonia markets were squeezed very tight at the start of 2008, driving ammonia prices above $500 per ton for the first time ever. Leader acrylonitrile margins in the United States have fallen more than $70 per ton, to a two year low.
MEG profitability dropped sharply in quarter one, as global markets suddenly became long following a period of very tight supply in the second half of 2007. Prices had risen to a peak in quarter four 2007, due to supply problems, including one major plant in Saudi Arabia. Asian contract prices have fallen by around $300 per ton during quarter one.
Nexant's "Quarterly Business Analysis reports" review regional trends in production economics for commodity petrochemicals and polymers in Western Europe, United States and Asia Pacific. The reports are published as part of ChemSystems/Petroleum and Petrochemical Economics Programme (PPE).
For further details please contact Andrew Powell at +44 207 950 1576 or email to apowell@nexant.com
©2008 Nexant, Inc.
