Viewpoint: European LPG supported by import dearth
London, 11 August (Argus) — The European LPG market remains heavily influenced by US fundamentals even several years after the dawn of the shale boom and resultant shake up of global trade patterns.
European consumption is forecast to outstrip local supply by 15.6mn t in 2017. And the regional net short position leaves pricing most often in the sway of its biggest external supply source — a US market that is still adapting to shale-derived LPG volumes that transformed it from a marginal net importer in 2010 to the biggest global exporter by 2014.
The swing has been bearish for European pricing as cheap US tonnes have captured market share from more expensive, historically dominant sources. US deliveries into the Amsterdam-Rotterdam-Antwerp (ARA) import hub gained 14.75pc year on year to 1.88mn t in 2016, according to Eurostat data, while imports from Algeria, Russia and the North Sea waned.
But recent fundamentals playing out across the Atlantic are expected to be bullish for northwest European LPG prices.
Low US propane inventories heading into summer — stocks of 47.1mn bl in May were over 40pc lower year on year — left local buyers scrambling to replenish volumes before the coming winter. This has given US propane prices unseasonal strength that, in turn, buoys northwest European prices as cross-Atlantic arbitrage opportunities are capped.
Northwest European prices will remain supported to the extent that US propane is going into stock building rather than tracking across the Atlantic. The Energy Information Administration (EIA) forecasts inventory builds to an 80.91mn bl peak in late October, still short of the 103.83mn bl pre-winter peak reached in September 2016.
The Asian market is also expected to exert a firm influence on European prices going forward, as it is Asian buyers with which European importers primarily compete to attract US exports.
This summer, Asia has represented a ‘least worst' outlet for those US tonnes available for export but that had to move at a loss, or could be moved at profit on cheap freight. And it is forecast to remain the favoured destination to the year end, a view reflected on the forward markets where mild contango in Asia stands in contrast to mild backwardation in Europe — regional August-December spreads are +$2/t and -$1/t respectively.
Asian fundamentals turned bearish in July as Chinese and Indian demand slipped. But a return to strength is expected on the basis of renewed demand from the two key regional swing buyers going forward.
Very Large Gas Carrier (VLGC) freight rates often hold the key to LPG arbitrage dynamics but they provide no hurdle to trade at present with global tonne-mile demand insufficient to support high rates for the recently greatly expanded global fleet.
Following some 50 vessels delivered in 2016, around 15 vessels have hit the water this year, with around 15 more expected before year end. By way of comparison, only 47 vessels hit the water in 2009-2014, inclusive.
The glut has seen rates slump recently to year-to-date lows of under $20/t over the bellwether Mideast Gulf-Japan route, with no significant upside expected before the year end.
Only a continuation of current rates can prevent both arbitrages remaining firmly shut during the winter and allow cargoes to make their way east or west with healthy economics. But, crucially, the status quo of northwest Europe being the second favourite destination for US export cargoes looks to be well entrenched until the end of the year.
Despite capped supply, propane liquidity has surged with 51 20,500t large cargo deals concluded in in 2017. Full years of trading in 2012-2016 notched up fewer.
Looking at butane specifically, trading has been thin by comparison in 2017 with seven deals struck publicly, of which over 70pc by volume were concluded last month alone.
Butane value is expected to rise in the coming months as Mediterranean demand draws local tonnes south while the usual seasonal boost from gasoline blending demand is forecast to be amplified this year due, again, to US fundamentals.
The US butane market typically sits in contango during summer — the July-August spread averaged a 1¢/USG contango in 2016. But this year strong export demand to Asia supported July to a near 1¢/USG premium to August, and a premium to northwest European butane, shutting the arbitrage and depriving the region of US supply.
The active butane coasters market in the Mediterranean is likely to remain tight until the year end, and will continue to provide strong support to northwest European prices as a result of product increasingly being moved north to south.
The alternative supply source of more economical product from Black Sea ports has dried up after Ukraine's domestic consumption rose sharply following the political problems with Russia and subsequent economic crisis.
The days of cheap Black Sea tonnes being offloaded at Ukrainian and Russian sea ports and snapped up by traders in the Mediterranean are not expected to return as Ukraine's appetite for cheap autogas has taken hold, with consumption doubling since 2012 from around 750,000t to around 1.5mn t in 2016.
The 500,000t Moroccan butane tender, now an annual affair instead of several staged throughout the year, will continue to exert further demand pressure in the south to the year end, while valuable stocks at Lavera storage are likely to command premium prices many are not willing to pay.
As seasonal blending demand meets thin supply, butane prices are expected to return to a premium to propane in northwest Europe. And some regional traders are already getting ahead of the anticipated gains with five deals concluded in July, typically a muted period for butane trade.
On paper, butane swaps liquidity has surged — open positions in the Argus Ice butane cif ARA futures contract reached a record high in mid-July — as paper was bought in anticipation of firming prices at a later date.
As ever, the key flat price driver for both grades of LPG will be crude oil fluctuations. The recent dip below $50/bl and a brief trip south of $45/bl for Brent has been followed by a rally that propane and butane prices duly followed.
Argus forecasts second-quarter and third-quarter Brent averages of $50.97/bl and $50.55/bl, respectively, and a 2018 full-year average of $49.70/bl. Further weakness is more likely than any gains unless, of course, Opec agrees to make deeper output cuts.
Key supply hubs for LPG — the US and Middle East — are both expected to increase export volumes going forward. But, against this, rising demand, especially in emerging industrial and residential markets east of Suez, will temper any increase in the structural global LPG supply overhang.
The EIA forecasts full-year 2017 US NGL production at 4.43mn b/d against 3.48mn b/d in 2016. Full-year 2018 production is forecast higher still at 4.86mn b/d. Argus puts total US LPG production at around 70mn t/yr in 2017 rising to over 76mn t/yr by 2019 and above 80mn t/yr in 2021.
Mideast production is forecast at around 72.5mn t/yr in 2017, rising to 79mn t/yr by 2019 and over 86mn t/yr by 2021. A key driver is Iran, forecast to double its LPG production to near 20mn t/yr total in the decade following the lifting of the US and EU nuclear-related sanctions early last year. Export capacity from its giant offshore South Pars gas field will hit 10mn t/yr by 2018, against 5mn t/yr in the full year 2016 and just 1.25mn t/yr back in 2013 under sanctions.
On the demand side, the IEA forecasts that LPG, including ethane, will account for around 35pc of the projected global oil demand growth of 1.4mn b/d in 2018. It forecasts that LPG consumption will rise by around 490,000 b/d year on year in 2018. Emerging markets, particularly industrial Chinese and residential Indian demand will drive this, and more than offset decelerating consumption growth across more mature markets. The EIA Short Term Energy Outlook (STEO) largely concurs with Argus and IEA outlooks.
In Europe, petrochemical demand remains the largest draw for LPG, accounting for around 37.4pc of all consumption in 2016 with market shares of 37pc, 38.3pc and 39.1pc forecast by Argus for 2017, 2018 and 2019, respectively.
In the short-term, the forward curves of propane and for naphtha — against which it competes for space on the cracking slate — are both in a slight contango to the year end, locking the propane:naphtha ratio in a slim range around the 88pc mark.
This implies that to the year end propane will remain at a discount to the heavier feed, albeit a narrow one in cash terms of around $50/t.But given that this slim advantage has not as yet seen demand from the sector recede, continued cracking of propane is expected.
In the long term, no substantial changes in regional cracking capacity are scheduled. Instead, the key variable is increasing flows of US shale gas-derived ethane, a competing steam cracker feed, hitting the region.
But this could, counter intuitively, lead to an increase in demand for propane as cracking more ethane will push Europe's prevailing structurally short propylene balance shorter still, due to the lighter feed's reduced co-product yield.
Accordingly, substantial additional propane dehydrogenation (PDH) capacity is planned regionally whereby propylene is produced directly from propane, which will support regional demand.
Cracking 1,297t of ethane produces an efficient 1,000t of ethylene but a negligible 28t of propylene and 3t of butadiene. By comparison, a sizeable 2,285t of propane must be cracked to yield 1,000t of ethylene. But the process produces greatly enhanced yields of 374t propylene and 69t of butadiene.
Ineos intends to build a 750,000 t/yr PDH unit for 2021 production at an as yet unconfirmed location, most likely to be Antwerp, Belgium, where it has a number propylene feed requirements. And Borealis is planning a third-quarter 2018 expansion of its current 250,000 t/yr Kallo unit to 740,000 t/yr with production also scheduled for 2021.