The Real Slim Shady – Polypropylene Faces A Buyer’s Market After Staying In The Sun Longer Than Peers

Commodities Mentioned:
Plastics (PVC, PP, PE, PU, PC, PET, etc.), Clean Energy Minerals, Carbon Dioxide, Hydrogen, Natural Gas/NGLs, Crude/Naphtha

Companies Mentioned:
ExxonMobil, Heartland Polymers, Enterprise Products, Formosa Plastics, LyondellBasell, Braskem, Celanese, Flint Hills Resources, Dow, RPM, BP, PureCycle Technologies, Issaquena Green Power, Occidental, Western Midstream, Axalta, Sherwin-Williams, Shell, Sabic, Evonik, Lanxess, Orlen, Unipetrol, Solvay, Vale, Capstone Green Energy, Ballard, Carlton Power, EnPower, Topsoe, Iberdrola, Novamont, Huntsman Corporation, KW Plastics, Mitsubishi Electric, AkzoNobel, PPG

Daily Chemical Reaction

The Real Slim Shady – Polypropylene Faces A Buyer’s Market After Staying In The Sun Longer Than Peers

Key Points:

We anticipate downward pressure on US polypropylene (PP) margins in 4Q22 and add to views in our mid-year research, When The Levee Breaks – Domestic Polymer Price Premiums At Risk As 2H22 Availability Rises, discussing PP market headwinds.
US September propylene contracts settled lower MoM, and market trends point to further decreases. US propylene-to-propane spreads now reflect multi-year lows.
ExxonMobil highlights strong 3Q22 results in energy but weak commodity chemical results, while coatings producer RPM posts results that exceed most expectations.
The US, despite having plenty of cheap power, has abundant potential for CCS, making it cheaper in most cases to produce blue hydrogen and methanol than green products. We also flag recycled resin price weakness and likely headwinds facing PureCycle.
The US trade deficit has declined based on the export of high-priced energy, while a strong US dollar is a plus for imports. Europe faces headwinds on both fronts.

See PDF below for all charts, tables and diagrams

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Exhibit #1: US spot polypropylene (PP) values have fallen considerably YoY and relative to YTD highs. We discuss signs of producers cutting back production to management inventories that appear delayed compared to polyethylene (PE) producers. Though most US polymer prices have reset to historical levels relative to Asia, we foresee downward pressure on most in 4Q22.

Source: Bloomberg, C-MACC Analysis, October 2022

General thoughts. In our research to start 3Q22 When The Levee Breaks – Domestic Polymer Price Premiums At Risk As 2H22 Availability Rises, we highlighted that North American polypropylene (PP) prices reflect considerable premiums to Asia and monomer levels that will likely shrink in 2H22. In subsequent research, we noted US polyethylene (PE) and polyvinyl chloride (PVC) price premiums relative to Asia on a spot basis had collapsed, but despite PP lagging this trend, it was likely to fall lower relative to Asia levels in 2H22. The chart below shows that the pace of US PP premium erosion relative to Asia quickened in 3Q22, and US PP premiums have now returned to 2020 levels. However, given high prices and still lofty relative PP-to-feedstock spreads, US producers appear to not pulled back production alongside the start-up of the Inter Pipeline, branded as Heartland Polymers, PP production start-up in Canada based on PDH-integrated integrated economics mid-year. This has resulted in domestic inventories rising, and we also highlight that more new capacity is coming in the near term, such as ExxonMobil to add 1B pounds PP capacity on Gulf Coast by year-end 2022. When we look at the ExxonMobil 3Q22 update highlights depressed chemical margins in 3Q22, we think more margin compression is ahead and that PP integrated margins in the US could stay compressed in 1H23, especially on a YoY basis. With this in mind, we also highlight that a significant portion of the PP market targets durable goods, which could see a demand pullback amid falling consumer affordability. Enterprise Products is currently constructing a second PDH unit at Mont Belvieu, which we think will add length to the domestic PGP market in 2023. This trend will also likely keep PP prices in check. As shown in Ex. #6, PGP prices have trended lower relative to US propane prices recently, and now reflect five-year lows, amid length in PGP facing a relatively tight propane/LPG market. The major PP producers in North America beyond the ones mentioned above include Formosa Plastics, LyondellBasell, and Braskem. For a bit of background on this market, we highlight an article in LINK that was a bit early with estimating the turn of the PP into a buyers’ market, but it generally aligns with our view that it will happen, and we see it developing into 2023. Other items of note in this report include the RPM business update and forward outlook. We think the drop in propylene prices could be a general plus for coatings producers able to hold onto product prices, as we see much of the propylene drop due to the pullback of polypropylene production capacity. We also highlight hydrogen in our ESG and clean energy section. In the final write-up in this report, we highlight continued consumer demand headwinds that we see persisting in 4Q22. Overall, our concerns targeting the availability of most petrochemicals have lessened into 4Q22, though our demand concerns remain elevated.

Exhibit #2: US spot polypropylene (PP) values have fallen toward Asia, returning to reflect premiums closer to pre-covid levels.

Source: Bloomberg, C-MACC Analysis, October 2022

Energy/Upstream:

In the European picture below, the worst case looks more likely than the best case, because the best case currently relies of two quite optimistic assumptions. The first is that there will be enough voluntary consumption cuts to keep inventories at acceptable levels. History shows that consumers tend not to do very much voluntarily unless the economic justification is very high. By capping power and natural gas price for consumers in many European countries, the EU has limited the likelihood that consumers will cut back, in our view. Cuts could come through mandates and through brown-outs or rolling power cuts, but countries would likely need to be convinced that one of the lower trends was playing out before they took such action. The second assumption is that LNG availability will be there. While President Biden has indicated that the US will not curtail LNG exports during the winter, we can only export what is available and through the capacity that is available. Europe is very dependent on the US LNG system working near perfectly during the winter but also dependent on other LNG exporting countries having the same luck. Hurricane Ian, had it been more Westerly in its track could have shut down the bulk of the US LNG infrastructure, perhaps not for long, but every cargo counts.

All eyes have been on Europe since the early part of the year, but it is important to note, as the charts below show, that Asia remains the largest LNG market and some of the recent more subdued demand growth in Asia has been because of the European pull. The 2025 tail-off the in IEA data is likely a lack of confirmed projects that could still make a 2025 deadline. Demand is likely to continue to grow for decades, as most countries cannot meet energy transition goals without an increase in natural gas consumption through 2035 or 2040, and in some cases beyond that.

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This year’s winter gas season opens with extreme natural gas price levels and volatility, caused by unprecedented uncertainty of supply as Russia steeply curtails its pipeline deliveries to Europe – see IEA 4Q22 Gas Market report for a discussion on the current state of the gas market. We highlight a few relevant charts below from this report.

Exhibit #3: Maintaining storage at adequate levels for the second half of the heating season will be a crucial factor in ensuring the security of gas supply – IEA 4Q, Gas Market Report. Also see the article, Europe’s gas crisis set to deepen after winter drains reserves.

Source: IEA – Gas Market Report, 4Q22, October 2022

Exhibit #4: Asian spot LNG imports collapsed in January-August 2022 as buyers sought alternatives – IEA 4Q22, Gas Market Report. We also highlight an article titled, Asia manufacturing faces Q4 gloom; export demand may weaken further.

Source: IEA – Gas Market Report, 4Q22, October 2022

Exhibit #5: The Asia Pacific region remains the dominant driver of LNG contracting globally – IEA 4Q22, Gas Market Report.

Source: IEA – Gas Market Report, 4Q22, October 2022

Supply Chain, Commodity Chemicals, & Chemical Sector News:

The ICIS comment below is significant, as it is generally not business friendly to be bearish. Most consulting companies, investment backs and money managers try to play the glass half full angle when things look bad as you clients tend to cut budgets when times are tough and projects can dry up, leading to limited feasibility work and even less M&A due diligence at least initially. Once well into a downturn the M&A work can pick up quite meaningfully as companies look at alternate strategies to create value and we often see assets change hands and whole companies merge in cyclical lows. We expect business activity to slow meaningfully with the exception of anything energy transition related and especially anything that can benefit from an IRA incentive – we continue to see enquiries for project work in this space and do not see that slowing down. We would agree with ICIS and think that the industry could experience a period not unlike the early 80s or early 90s, especially if governments struggle to fix the inflation problems. Balance sheets are generally less stressed than they were in the 80s and 90s, but there are some companies more stretched than others – most notably Celanese. We saw a lot of chemical assets change hands in the early to mid-1980s and we saw a lot of oil company consolidation and other chemical moves in the 1990s. Reality needs to set in first, and we are not there yet and do not expect to be for at least another 6 months. To get more bullish for chemicals and polymers we would need to see a step change in domestic growth in China.

This is the first significant chemicals downcycle for many years
ExxonMobil forecasts fall in chemical earnings on sliding margins
RPM Reports Record Results for Fiscal 2023 First Quarter. Within the release, RPM notes, “All four of our segments achieved double-digit sales growth driven by our procurement and technical teams’ ability to increase material supply through insourcing and qualifying new suppliers. Additionally, pricing was managed by implementing increases to catch up with persistent cost inflation. Three out of our four segments generated strong adjusted EBIT growth, led by our Consumer Group, which benefited from MAP operational efficiencies that were enhanced by our ability to improve material supply.” Management also anticipates 30-40% adjusted EBIT growth YoY in 4Q22. We find general takeaways in the report worth noting for other coatings producers, such as PPG, AkzoNobel, Sherwin-Williams, and Axalta.

Exhibit #6: US polymer-grade propylene (PGP) settled US$0.05/lb. MoM lower in September to US$0.44/lb., and we flag the notable downtick in spot markets entering 4Q22. Per our estimate, US PGP is trading nearly 20% lower WoW, which we think potentially suggests some derivative production, most notably polypropylene (PP), has likely been taken down amid excess inventories.

Source: Bloomberg, C-MACC Analysis, October 2022

Exhibit #7: US spot polymer-grade propylene (PGP) reached its lowest YTD level this week and it now reflects a level below the prior five-year range relative to propane, which is a negative trend for PDH profits at the monomer level for operators, such as Enterprise Products, Flint Hills Resources, and Dow. Enterprise is scheduled to bring online in #2 PDH unit in 1H23. We also note that portions of merchant sales from these plants are contracted on a cost-plus basis, and Dow is not a polypropylene producer.

Source: Bloomberg, C-MACC Analysis, October 2022

Exhibit #8: RPM anticipates benefits from heightened material supply and from its product portfolio reflecting minimal exposure to auto and China headwinds in 2QF23, which is likely to offset an array of headwinds to growth as noted below. We also note that adjusted EBIT growth in 2QF22 was 21% lower YoY amid significant raw material headwinds, as shown in Ex. #3 of its presentation.

Source: RPM 1Q23 – Earnings Results Presentation, October 2022

Sustainability, Clean Energy, Recycling & ESG:

The hydrogen charts in Exhibit 10 show situational advantage/disadvantage more than anything else and the same applies for methanol. The US, despite having plenty of cheap power, has abundant potential for CCS – the prime subject of our ESG and Climate report today – so it is cheaper to make blue hydrogen and methanol than it is to make green – especially over the next decade. Europe has more limited CCS opportunity and what they have is substantially more expensive, so Europe is going down the electrolyzer route, even though they cannot afford it. European power prices today are so high that electrolysis is prohibitively expensive, and any “dedicated” projects to go straight from power to hydrogen are missing a massive opportunity cost by not selling the power into the grid. The vast investments in wind and solar that Europe needs to meet its energy goals, before making a drop of hydrogen make the estimates in the charts below look very inflationary. A hydrogen strategy in Europe should be backed by a nuclear strategy for the power, without this we see the targets below as far too hopeful and only achievable by bidding power from other needs.

Electrolyzers are top of mind for us today as we progress our Mississippi project and we have been concerned that what we need by 2026 might not be available. But the reality is that much of what we are hearing and what is implied in the chat below is mostly talk – firm orders for equipment are harder to find and this is confirmed by conversations that we have had. Electrolyzer sellers are engaged in “what-if” conversations that could sell out their capacity many times over – we are already in discussions to sell green ammonia that total multiples of what our capacity might be – this is also happening to the renewable fuels makers – everyone wants to talk. Most of these companies are taking the same approach that we take with our consulting project work – we will talk to companies that collectively are discussing projects that are 4-5x our capacity to deliver – we take the first one to come with a signed contract and then the second etc. by the time we get to the 4^th we have raised the price! Despite our significant need for electrolyzer capacity in Mississippi, we are confident that if we showed up with a down payment and a contract today, we could get what we needed on time – the 3^rd or 4^th person to show up may be disappointed.

While we are sounding like a broken record on recycling – the “bale price signaling a recession” headline below may or may not be signaling a general recession, but it could be a major signal of problems for recycling and renewable polymers in general. Despite the general desire to see more recycled polymer back in the market and out of the waste pools, economics matter. Back at BP (it was BP back then – not bp) in the 80s we were asked to do some work on the emerging recycling market for recycling, which was taking off in select European locations – at the time we have polyethylene and polypropylene so what was going on in recycling was important. In the early part of the decade polymer prices were high because oil prices were high (we weren’t making any money) – then oil collapsed, and polymer prices followed and then there was the mega-cycle and polymer prices and margins spiked for several years. Recycling was 100% a function of economics at the time – if you could collect, sort, and regrind for less than the virgin price you made money. So, we saw some activity in the early 80s, a brief hiatus when the il price collapsed and then another surge of activity – 1988 through 1990. When the chemical cycle ended, with oil at $12 per barrel and natural gas at $2 per MMBTU the recycle industry died completely – not a chance you could cover costs and stay competitive. What we are witnessing today and will see tested over the next 6-9 months is just how much packagers are willing to pay over virgin prices to meet recycle content goals, as the gap between virgin prices and what it costs to get a good recycle stream is going to get very wide. If recycle prices collapse because buyers are not willing to pay an increasing premium, initiatives will fail. Most of the recycle initiative are with the large companies or private, but we would be paying attention to PureCycle Technologies.

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We highlight IEA hydrogen charts below mid-week ahead of C-MACC Co-founder, Graham Copley attending a hydrogen conference in Washington D.C. next week to advance the Issaquena Green Power project. Contact us for details.

Exhibit #9: North America is mostly focused on capacity growth in low-emission hydrogen production capacity for ammonia thorugh CCUS, while Euorope and Asia tend to take more of an electrolysis route, similar to our Issaquena Green Power project.

Source: IEA – Global Hydrogen Review, October 2022

Exhibit #10: North America is mostly focused on capacity growth in low-emission hydrogen production capacity for methanol through CCUS, while Euorope and Asia tend to take more of an electrolysis route, similar to our Issaquena Green Power project.

Source: IEA – Global Hydrogen Review, October 2022

Exhibit #11: We highlight the estimated breakdown of low-emission hydrogen production by region in 2020 vs. IEA 2030 estimates

Source: IEA – Global Hydrogen Review, October 2022

Exhibit #12: Sourcing electrolyzers on time is a risk to global expansion plans based on this technology, which is why a partnership with an electrolyzer producer who can source the critical components to meet demand is vital for many projects.

Source: IEA – Global Hydrogen Review, October 2022

Other Chemical Industry, Demand & Downstream News:

The US balance of trade is one of the positives to come from the stronger dollar as we continue to export high priced energy, while what we are importing is costing less. If the Fed is successful in curbing spending in the US, it is likely that it would have and outsized effect on imports – largely durables – and this could see the balance of trade swing further towards zero and there is a scenario, albeit very recession driven, where the balance of trade could turn positive. The very negative inventory swing that we see thought industrial and retail chains in the US and Europe right now will inevitably overshot and result in a rebound at some point, but it may be 2H 2023.

Exhibit #13: We highlight support in US mortgage rates and USD strength relative to major foreign currencies after both recently hit multi-year highs. We view high mortgage rates as a headwind for housing affordability and a strong dollar as a negative for exported products, beyond energy, such as natural gas, which is benefiting from notably higher prices abroad.

Source: Bloomberg, C-MACC Analysis, October 2022

Exhibit #14: More German Companies Plan to Increase Prices. This article notes, “For the economy as a whole, price expectations for the coming months stood at 53.5 points in September, up from 48.1 (seasonally adjusted) points in August. For food, the indicator stood at a full 100 points, up from 96.9 (seasonally adjusted) points in August. Unfortunately, this probably means the wave of inflation isn’t about to subside, Especially when it comes to gas and electricity, the price pipeline is not yet exhausted.”