Viewpoint: NWE propane tightness to cap petchem demand

A winter of reduced propane demand from the northwest European petrochemical sector is a pre-shale boom throwback that some early-career traders may not yet have witnessed. But this scenario is likely, after a sustained run of relative propane price strength versus competing feedstock naphtha saw plans for the flexible portions of local cracker slates reshuffled.

A lack of steady maximum propane intake at crackers — the norm in recent years — will leave cif Amsterdam-Rotterdam-Antwerp (ARA) propane prices subject to increased volatility in the coming months because of the innate unpredictability of the heating market that will make up an increased share of total consumption.

In the early 2010s, propane's value was under ceaseless pressure from shale-derived product from the US, which shifted the global balance increasingly structurally long. This significantly dampened the effect of seasonal heating demand on propane value relative to naphtha, which historically had created predictable bi-annual swings between the pair. The structural oversupply has kept propane most commonly cracked at maximum all year round.

The five-year fourth quarter average propane-naphtha spread is -$70/t, but 2020 saw the spread in positive territory as often as negative in the fourth quarter, averaging -$0.70/t.

Naphtha's value was undermined in 2020 by travel restrictions that curbed its use as a gasoline blendstock, while propane gained support from its more diverse demand portfolio — residential use that was undisturbed, or even boosted, by lockdown measures.

Propane averaged a slight discount to naphtha of -$11/t in December, and Argus steam cracker models for sites with requisite flexibility show naphtha as the preferred feedstock. The implication is borne out in recent spot trade, with local petrochemical demand very muted.

The above-average temperature northwest European winter so far may not endure, but even the low range of off-take expectations at ARA terminals will be sufficient to deny propane large-cargo value a relative fall back versus naphtha. Argus expects propane value above 90pc of naphtha until April, when heating demand will subside. Outright propane discounts will at this point return below the $50/t mark that has, for many years, been a reasonable expectation at any time of the year. Argus forecasts second-quarter physical propane-naphtha spreads to average around -$60/t, a discount that will tempt a resumption of full propane cracking.

While heating demand will play its part in keeping propane relatively strong in the first quarter, this would not be sufficient without three supply restraining factors also in play.

First, local supply will be trimmed given the negative margins facing the European refining sector. Refineries need oil product demand to pick up and for swollen stocks levels to drawdown before margins can recover. Utilisation rates are around 70pc, compared with 80-85pc in 2019. The return to this more typical operating level will be slow and steady in 2021, capping local propane supply all the while.

Second, very large gas carrier (VLGC) freight costs soared globally in the fourth quarter. Rates on the key Houston-Flushing route doubled from October to December to hit a five-year high of $91.50/t on 11 December. While rates have tailed off marginally, strength is forecast to largely endure and this will be supportive of delivered physical cif ARA assessments.

Third, northwest European importers are likely to face fierce competition from Asia-Pacific buyers for propane from key swing supplier the US. As heating demand picks up, cif ARA values will have to rise to offer competition to delivered Argus Far East Index (AFEI) prices and turn the heads of US exporters that can send vessels either way. Asia-Pacific LPG demand has rebounded sharply in recent months, driven largely by China's vast propane dehydrogenation (PDH) sector and Indian domestic fuel use.

By Peter Wilton