US rail data for chemicals remain at the 5-year highs and have been there for almost 2 months. This is working its way into the supply chain and we are seeing weakness in US polymer prices across the board, except for PVC. US spot polymer prices are in a bit of a “no man's land” right now as they would need to drop significantly to find incremental demand offshore, given US premiums to the rest of the world. We believe that most of the volume leaving the US is doing so within company-specific businesses – ExxonMobil supplying ExxonMobil customers, Dow supplying Dow customers, etc, and consequently, these shipments do not show up in the spot market.
In the first Exhibit below we show a 5-year high in chemical rail-car movements. We have noted in research since early October that 4Q production in the US could be very high because of a combination of available capacity – following a year of weather-related delays – and very attractive margins and demand. We have been at the high end of rail car volumes for most of the quarter, and this may be part of the reason why we are seeing some price weakness for polymers in the US. Most of the polyethylene exported from the US moves from the manufacturing site to the export port via rail, so increased exports would also drive higher rail car numbers. As long as pricing and margins remain high and customer demand robust, we would expect these higher volumes to continue. This does not make us any less concerned that somewhere in the chain there is now an inventory build going on and that fortunes could reverse in 2022.
While we are beginning to see some easing in US polyolefin prices we note in today's daily that prices are not falling in step with monomers and so spreads are widening. Because of the very integrated nature of the polyethylene market, we see swings in where the margin is being captured based on relative tightness and today it is squarely biased towards polyethylene in the US. Despite the polymer price declines in the US we maintain a level of pricing that is well above Asia – Exhibit below, but not high enough to attract imports, given the high container rates and the long lead times on shipping. The same is not true for polypropylene, which maintains a spread versus Asia that can cover the very high current costs of transport (bottom exhibit).
We talk about the US producer’s pressure to keep polyethylene contract prices flat in October earlier in today's daily report but the exhibit below helps to show some of the potential longer-term consequences of that behavior. The desire to keep pricing high by the producers is obvious as they will continue to make outsized margins if they do and carry some of the good 3Q profitability into 4Q – it will still not be as good as 3Q as costs are up for ethylene and every polyethylene producer is integrated back to ethylene in the US. The large gap in pricing with Asia is declining, in part because Asia prices are at costs and costs as rising as crude oil prices strengthen.
Our latest Sunday Thematic report, "Damned if you Dow and Damned if you Down’t. Hard to win", centers around Dow's announced development of a new net-zero carbon emissions site in Alberta, Canada. It discusses company-specific and sector ramifications for Dow's strategic move to produce low-cost low carbon polyethylene in Canada while also expanding capacity.
Even with the inflated container rates, the vast price difference between US and Asia polypropylene prices makes the opportunity too great to ignore. Even at their highest levels, container rates, and inland transport costs likely total no more than 35 cents per pound today, and as shown in the Exhibit below, you have plenty of room to maneuver. This is not the case with polyethylene or other polymers where the price delta between the regions, while high, does not cover the costs and the added risk of delays to sourcing. For more see today's daily.
The gap between the US contract and spot price for polyethylene in the exhibit below looks wrong, and it could be wrong in absolute terms but the trend alone makes a statement. In the past, we have seen a couple of instances where reported contract settlements have drifted further from net transaction prices, either because of larger agreed discounts or because of contract formulae that reflect spot pricing to a greater degree. This tends to work for a while, but ultimately smaller buyers with more limited purchasing power become more disadvantaged and there is a breaking point at which the “contract” price is adjusted downwards by the price reporting services to better reflect what is really going on. The current market feels like the times in the past when an adjustment has been needed.
The ACC “chemical activity barometer” shown in the exhibit below is more impressive when you consider that by August of last year the demand recovery was in full swing and operating rates were high. There was some negative impact from the first hurricane, but this hit very late in August 2020 and would not have influenced the ACC reported activity significantly. We focus on price and margin in most of our commodity commentary and this is appropriate, given how much more important they are than incremental volume for all commodities, but it is worth noting that all of the chemical producers get decent cash flow gains from uninterrupted high (optimal) operating rates. The last two years have been a little plagued by more than expected unplanned stoppages, and this has helped keep the US market buoyant, but those that have been able to run at optimized rates for prolonged periods are benefiting. Prices have been the biggest contributor for Dow and ExxonMobil on the integrated polyethylene front in the US this year, but both have had the benefit of very strong operating performance, as have most others with a bias to Texas. Dow and ExxonMobil have large facilities that were in the path of Ida. LyondellBasell and CP Chem do not. See our daily report for more.
We discuss recent historic highs reached in China to US container freight rates in our daily research today, and (absent Ida) we note that freight charges remain a major component in favor of US polymer price support. With current container rates so high, it is difficult for US consumers to get access to cheaper material from Asia, even if they are willing to try the untested grades in their equipment. Absent the freight extremes today, we would be much more definitive in declaring that the US's record spot/contract polyethylene price difference was unsustainable and would be corrected quickly. While there appear to be some surpluses of US polyethylene today, such that producers are testing the incremental export market, the same producers can hide behind the freight barrier as they make arguments to support domestic pricing. Some US buyers may be getting pricing relief because they have price mechanisms that partly reflect the spot price. It is also possible that large buyer discounts have risen through this period of very high pricing (this has happened before).
The advanced nature of the ExxonMobil/SABIC project, which we have discussed previously, is another cause for concern around US polyethylene market strength for a couple of reasons. First, it is only the first wave, with Baystar and Shell hot on the heels in 1H 2020. Second, it will add another ethylene seller in the US – SABIC – and this may be enough to cause some ripples. If you look at this in the context of the Asia production growth data provided by the ACC (below) there should be a significant cause for concern around the global balance for many products. Some of the specific Asia country growth, year on year and year to date, is driven by COVID-related shutdowns in 2020 – Taiwan and Malaysia for example – but the bulk of the China growth, which is more significant in absolute volume terms is from new capacity. China’s ability to sell surpluses internationally is hindered by the current logistic problems, but these will not last, and we should also factor in where the material will go that had been imported into China. The global polyethylene market could look very different in 2022, although all eyes will be focused on Hurricane Ida for the next week. See more in today's daily report.