Fear of shortages is the one factor that is most supportive in terms of helping to push through pricing and the events in Europe and their associated impact on energy prices should be all the support that the chemical and polymer industry needs to push pricing through that will cover cost inflation. Buyers of raw materials and intermediate products will naturally look to buy a little more than they need in the near term, both to ensure that they get something ad to try to build a bigger inventory cushion. This will have the effect of pushing apparent demand higher, making the pricing initiatives easier. Few will push back on pricing if their primary concern is availability. Looking at the BASF results summarized in the chart below, demand is already very robust and this will lead to higher utilization rates and higher volumes for chemical producers as well as high pricing. The commodity producers are likely more interesting here as they can move prices much more quickly than the specialty companies who might see margins squeezed over the next couple of months. None of this is good for inflation. See more in today's daily report.
It is likely a difficult day for the European chemical industry as all of the fuel prices that they depend on are rising quickly, which will force many difficult decisions over the coming days. There are a couple of factors to consider – what happens to costs and margins if energy prices remain inflated, and what happens if energy availability becomes an issue and plant closures are necessary. In a world that is already reeling from inflationary pressure that we have not seen in four decades, there is at least an acceptance that prices can move higher, but the energy-dependent European industrial and materials companies will need to move prices quickly and meaningfully to absorb their higher costs. If natural gas supplies from Russia are halted, Europe is likely going to need to allocate supplies, as there is no easy fix given an LNG system that is already at capacity. Industry will likely take the hit to ensure power for heating and cooling. This will drive product shortages in Europe, especially for chemicals, which will likely make it easier to get the pricing necessary to cover costs.
There are a couple of related topics in the charts below from today's daily report, as any conflict with Russia would almost inevitably impact European energy supply, raising prices for natural gas and pulling on as much LNG as possible. That said, we suspect that part of the recent run-up in prices has likely been to build a cushion of inventory, as much as that is possible with limited storage relative to demand.
The decline in US and global chemical pricing this week (as discussed in today's daily) is a function of oversupply in the US and lower costs in the rest of the world. The US has had an incentive to produce everything for most of the year and has had essentially full capacity to do so since the beginning of the 4th quarter. This will have collided with seasonally weaker incremental demand in December and the recent abrupt drop in oil and gas prices to swing momentum very much in favor of buyers. Polymer prices have to date been more stubborn in the US, but we expect continued weakness here also through the end of the year.
We should probably link the message in the exhibit below with the write-ups in both today's daily report and today's ESG and Climate report. The drop in E&P spending relative to cash flows and the shortage signals that are evident from the current oil and natural gas prices is likely to bump into rising hydrocarbon demand for the next several years, while the rate of renewable investment tires to catch up with energy growth before it can focus on energy substitution as meaningfully as the climate agenda would like. We also cannot look at the chart below and say that it does not matter because oil is less important in energy transition than natural gas. The oil-based investments in the Permian and Eagleford plays, in particular, have significant volumes of associated gas, and much of the natural gas supply growth in the US has come from these oil-centric investments. As they slow down, natural gas supply and NGL supply will be impacted, and while we are seeing increased rig counts in the natural gas biased regions, such as the Marcellus, the potential declines from the other fields will be hard to make up for.
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.
At this point, it has stopped being a story about how transient higher energy prices might be and instead become a story of how high could they go as well as how long the higher prices could last. With sentiment easing in the US because of an expected milder October, we also have the headline of the restart of Cove Point LNG, which should add to natural gas demand. The EIA, in the chart below, shows US prices peaking through the end of the year before falling again in early 2022. There remains an expectation that the rest of the world will be short of LNG and so we will either see the US natural gas competitive advantage remain strong, or the US LNG facilities will stretch their underutilized nameplate capacity and this could be supportive of higher US natural gas prices. New LNG capacity does not hit until late 2022 and how much is exported until them will be a function of the throughput of the existing terminals – which today look like they were very prudent investments.