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Hello and welcome to another episode of the ad Thoughts podcast.
I'm Tracy Alloway and I'm Joe Wisenthal.
Joe, I have a prop for today, prop episode, a visual learning aid for a podcast. I'm going to hold this up.
Yeah, what is this? It looks like a magenta marker.
Magenta.
Yeah, it's pink.
It's hot pink's it's like purplish pink. Really, Okay, color is beside the point. It is indeed a highlighter. But more importantly, it is a result of a complex petrochemicals supply chain.
You're right, it Isgenda is more purplish. I don't know. I always thought it's a little bit more pinkish. But yes, you're correct, you're you're correct, You're totally correct.
I didn't intend your major takeaway from this conversation to the different maga.
Okay, but yes, you're right. And without advanced chemicals of all sorts and oil and all that, you would never have the plastic shell of the marker, and maybe even some aspects of what gives it color when you draw on something.
All right, So what is this plastic casing actually made of this is a.
Pop quiz that I definitely have no idea. Okay.
It starts from.
Yeah, crude oil, yeah that okay.
Yeah, so crude oil distilled into.
Keep going naphtha, naphtha, right, naphtha.
And then naphtha is this is a hint cracked into ethylene or propylene. Yeah, we've actually done yeah, okay, and then it gets polymerized, yeah, into polyethylene, right, and then it gets chopped up into tiny little plastic pellets, which are I know, you know this one. What are they called the little plastic pellet? One of my favorite words.
Go on, nerdles, nerdles. I remember all of this from that episode that we did nerdle the.
Building blocks of highlighters and lots of other plastic products, which isles. Okay. So the reason we bring this up is obviously there's a situation in Iran. The Straight of Horror Moves is still closed. We're recording this on March twenty fourth, and we're starting to see a lot of the disruptions in the oil market start to I guess, ripple out into other petrochemicals.
Right.
And someone asked this on a twinter the other day, and they were like Joe, or is the higher price of oil gonna impact the price of plastics? And I was like, I would be very surprised if it didn't. I mean, I don't really know for sure, but it would be very weird. It would be hard for me to imagine a scenario in which the key input doesn't.
The thing that I am very curious about, and you described a sort of sequential chain of industrial processes from the oil to the nerdles, and of course when we did the episode, so one of the things that we've talked about is that there is a gap between the price of some of these end products and the implied price of crude oil. So crude oil, I don't know exactly where it is right now at this moment that we're recording it, but it's shot up, but these end
products have shot up even more. And our guest Rory Johnson had a really good explanation, which is that the refineries do not want to shut down, and so they're rationing. They're slowing their input, their input because it is very costly to shut down and ever restart should they ever run out, which is a prospect given that we're seeing a volumetric decline and the amount of oil available in
the world. What I'm curious about, in which I don't know the answer, is whether this applies to all of the different processing steps along the way, which is is there this sort of even greater price impact because the entities that do all these sequential industrial processes are slowing down because the shutdown and restart process is costly for them as well. Well.
I would say the added complication with a lot of petrochemicals is we are in fact seeing some closures already. So in Asia, we've had a few crackers, as they're called Asian crackers, start to shut down their production and basically declare force measure, and so we are seeing fewer petrochemicals get made in places like Japan and South Korea.
I think the question we're kind of inching towards is whether or not this is just going to be a question of price, you know, prices for plastics go up, or an actual supply shortage in the sense that maybe you just can't get certain types of plastics or packaging. And one other thing I would just add, I think in the post COVID environment, an underappreciated driver of inflation at that time was the cost of packaging. That's right, because we did see the cost of plastics go up.
And if you think about what you're buying at a grocery store, like, Okay, it's a bunch of carrots, but it's also a bunch of carrots in a plastic and.
A plastic bag completely or jar or whatever. And I would say in a lot of the cases of food stuffs in particular, you're mostly paying for the entire supply chain and the packaging of it. The actual food value is almost dirt cheap if nothing. And so yeah, and are we just going to get outright shortages? What other ripple effects? I don't think we have any idea. Probably one of these things that compounds the longer this war enclosure goes on.
Many questions that we have, all right, well, I am happy to say we do, in fact have the perfect guests to talk all things petrochemicals. We're going to be speaking with Philip Gertz. He is the chemicals and oil analyst over at BNEF and a guy who lives and breathes polymers, hopefully not literally.
Not breathed, hopefully not breathes polymers.
All right, Philip, thank you so much for coming on a lauds.
Thank you very much, Tracy and Joe and sounds are we set introduce me with living and breathing polymers. But I'll take it. I'll take it for sure.
We're all filled with microplastics now, right, So you're not exactly right. So I'm tempted to begin just by asking you to kind of list all the petrochemicals affected by the strait of hornes moose, sort of like Forest Gump style ethylene, propylene, polyethylene. You go on and on and on, but just broadly, why don't you tell us about the Gulf region and its role in the petrochemicals supply chain.
Who right, Yeah, lot's to unpack here. So when it comes to chemicals at large, let's maybe establish three different categories. We have the feed stock, like you already pointed out, Tracy, basically you almost don't need me here. But you have the crude oil that's turned into NAFTA and liquefied petroleum gas, which are butane and propane principally ethane. Those all the feedstocks that go into the so called crackers, and the
crackers turn them in what we call base chemicals. There are technically six major based chemicals that come out of this, but for the sake of today's discussion, the major focus will probably be really around ethylene propylene. If we want to get readyfins, we can talk about xylene's parasolline or butydyninge. But a lot of the really the majority of the bulk plastic that we talk about really come from ethylene and propylene, and some from parasylene. In terms of polyethylene,
terreftolot or are also more commonly known as polyester. So ethylene, propylene, xyolene are turned into polyethylene, polypropylene and into polyethylene terreftolot or polyester. Now you have a wide range of really different derivative chains. Even within polyethylene, you have a lot
of subcategories, and within those subcategories of other subcategories. In very simple terms, you have a three way division into high density polyethylene, low density polyethylene, and linear low density polyethylene. Doesn't matter too much, but it's good to be aware of that. When we talk about, well in analyst terms, about where the market is moving, we typically look at high density polyethylene. What's the supply demand there? Same goes
for low density. Obviously they have different applications. And also within those larger buckets there are a lot of subcategories. Now you circle back to the major theme here of what's the position of the Middle East Gulf. So within those three categories, firstly, the Middle East itself is a major ex border of polyethylene, polypropylene, et cetera, et cetera, especially of polyethylene. And when I say major, let's be
specific in need polyethylene polyethylene varieties. That's about twelve percent of global capacity. Production will be slightly higher thirteen fourteen percent, quite a significant chunk. To make that even more explicit, if you take those volumes, we're talking about eighteen million tons one eighth of production capacity, and Middle Eastern crack or Middle Eastern facilities typically run at very high rates ninety two hundred percent, so roughly an equivalent amount of production.
If you take all of that, that's basically as much as Europe slash slightly more consumes. So it's a lot right. You have those volumes firstly being taken off the market directly, although a couple of asterisks here because technically polymers are export it differently than fuel. They're exported in a solid state, which means theoretically there should be the possibility of diversion. That's slightly easier than for oil NAFTA or oil products
in general. It's big asterisk there. But if you take all of that off the market, you basically have the entirety of what Europe consumes all of the sudden disappearing. So that's step number one. Emphasis here on this goes especially again for poly ethylene varieties. Polypropylene is slightly lower. We're talking about seven ish percent of global production PVC polyvinyl chloride, which is used heavily in infrastructure, even lower.
That's three to four percent styrene, which is another major value chain we're talking about against six to seven percent, so the Middle East in terms of polymers, that's really really a poly ethylene story, but not exclusively. So that's step number one, the direct polymer exports. Step number two is and that I would argue is really where you see the biggest impact is on the feed stock side. Again, this is something you can subdi into three categories. You
have direct NAFTA exports. You have crude oil exports that are then turned into NAFTA amongst others, so the refineries run on it, and obviously if you have to cut refinery rates, you're also going to lose NAFTA output. And you have what's again called LPG liquified per toilum gas, which I'll just allude to well as LPG from now on, but that means probaane buttane. So we have those three
they almost exclusively go to Asia. And when I say Asia, we can go into the nitty gritty details of how dependent each individual producer is exactly in those feedstock extremes, because there are quite huge differences there. But in very broad terms, polymer exports, that's twelve percent. If we take the NAFTA enough to exports and the crude oil exports, and we translate that into how much does ethylene and consequently polyethylene production would have to be cut in Asia?
That's probably around fifteen to seventeen percent of global production. So that's really where the predominant hit comes from.
Now it's fantastic. First of all, quick question on NAFTA, is that typically produced where the oil comes from? How like tight is that it is derived from crude oil? Is it typically right there? Or they're parts of the value chain where the oil gets shipped a long way and then the nafta is produced somewhere else.
It's basically the latter, or rather it just depends right, Okay, the same as as for refineries at large, it just depends on where your refineries are located. So if you look at the Middle East for example, or let's take Saudi Saudi produces around ten to eleven million barrels of crude oil per day. But if I'm not mistaken, it's refining capacity is around anywhere betweenty three and four million
barrels per day. So in that case, it refines a relatively small amount of its total production capacity.
So to Joe's point, why do places like Japan and South Korea, why do they have, you know, crackers who are refining naptha into other polymers at all? Why does that make sense for them or is strategically important?
Well, history plays a huge role. Japan, next to Europe and the US, was really one of the front runners of the petrochemical industry. And that's also why at the same time, even before all of this happened, Japan was also on the front line of losing its chemical industry. That's another topic we can get into later. But basically your question would also be, then why aren't those products exclusively produced in the Middle East and den ship the story?
Why not just import them? Why even bother refining them domestically?
Well, I mean it's not only a question of enough to per se, right, but Japan also needs jet fuel, diesel, gasoline, etcetera. So all of those come into one supply chain and another asterisk here is the Middle East. Again, the Middle East is also a major producer of chemicals. If you look at ethylene, for example, the largest by far, Surprisingly I don't need to turn this into a pop quiz,
that's China. That's sixty one million tons of ethylene twenty five percent of global capacity then comes to US forty four million tons a data by the way, as of January twenty twenty six. Provisionally, then you have Saudi Arabia seventeen million tons, right, so you already have a huge step down here, But Saudi Arabia is the third largest producer or in terms of chemical ethylene capacity at least
then you have Self Korea have thirteen million tons. So what I'm getting at here is to midd least already Saudi as an example, producers a lot has a lot of capacity. But because there are such extraordinary oil producers next to chemical producers, and the chemicals they produce locally, by the way, are largely gas derived. We can get also get into that later. But they do both right to export a lot of polymers, a lot of chemicals,
but they also export a lot of products. It's probably a bigger question in terms of the overall oil supply chain why companies have chosen to also build out the refineries in Japan soft Korea a wether than all in the Middle East itself.
So Tracy obviously started the conversation showing her hot pink highlight.
How you learned something.
But like you know, if we have to go for a while without making highlighters, or maybe we reduce the colors of the highlighters, not the end of the world. The world isn't going to come to a screeching end, et cetera. But I imagine sometimes are a little bit higher on the value chain. And so when we talk about now, though we talk about some of these other things, what end uses would you be most worried about now? Because the volume or the capacity numbers that you mentioned
are pretty substantial. So again, I'm not too worried if we go for a few months without making highlighters. What are the end use cases that you're watching right now? They're like, oh, this could be a real problem.
Oh you guys had podcasts on fertilizers on this stay. Yeah, that's right, it's a very similar story. My main concern, without a doubt, would be food packaging. I am not aware of any fungible products for polyethylene to be used at the same scale for food packaging as well polyethylene, so I do not know whether it is a viable alternative. Maybe there is, and I'm just ignorant about it, But to me, without a doubt, food package and packaging at large.
It's very cliche to take your own topic and talk about how incredibly important it is to modern day society.
But I mean, this is the complexity of modern day society. This is actually a very important point. Is a joke, and it's like everyone jokes is like, oh, what I do is the chase is the key thing holding modern day society together. They're not wrong. They're okay, podcasting, maybe not, but like they're not wrong, Like any one of these things go and the whole thing goes that was the less absolute COVID. So you're not absolutely so take the take the credit. You're at the center of the world
right now. So yeah, all right, talk about food packaging and what you're worried about.
Yeah, food packaging, packaging at large. I'm less worried about, let's say, infrastructure projects, right because if you take let's say high density poly ethylene and polyvinyl chloride, a lot
of them go into infrastructure projects. Hence why you could see in India, for example, since twenty eighteen twenty nineteen, huge search in those chemicals demand, especially high density poly ethylene, because they were incredibly large infrastructure projects, especially on water pipelines, if I'm not mistaken, goes into that still incredibly important.
But if we talk about meeting really the urgent tasks of the day, which is making sure that everybody has access to their basic needs, I find it very hard to see how value chains can be constructed or how a shortage of polyethylene or other plastics can be circumvented, especially poly ethylene near I'm concerned about because of the disproportioned impact. And we briefly touched upon Hey, if twelve percent of polymers are cut off, polymer exports from the
Middle East and the feed stocks are cut off. But that's only a part of the story. There are many angles here to take overall impact obviously, without a doubt, will be sizeable. How sizable time will tell. But I cannot think of alternatives to the problem we would be facing, which is packaging, getting stuff from A to B, making sure that stuff is conserved. So if anybody knows in the audience, please let us know in the commons. Yeah to learn.
So okay, on that note, what are we seeing now in terms of poly ethylene availability? So I mentioned that we have seen some crackers in Asia who have had to reduce their refining output. Are we seeing prices start to rise? Are we seeing outright shortages? What are you observing in the market so far?
So I would kick this off by saying that everything happens with a significant delay, and especially now, voyages from the Middle East Gulf to South Korea Japan take about eighteen to twenty five days, and while we're kind of
now entering that period. So if you look at crude oil imports that went to South Korea, for example, you could see them still spiking in the second week of March, just because a lot of ships departed in late February, whether or not in anticipation of this happening, but there is a spike in the second week of March, so on a physical side, to me, it seems we have seen comparatively little impact yet I think most of this will really materialize around early April, and from there on
it gets worse pretty quickly. Also one importance note here, and people can again pitch in in the comments, but polyethylene markets are relatively opaque when it comes to the exact availability. So we talk a lot about run rates even demand. Right, One very cliche topic that's regurgitated a lot is demand in Europe is lookwarm. But if you look at apparent demand, which is trade plus some production run rate assumptions that are reasonable and based on company statements,
you see that demand is pretty stable. So my point here is that demand, how much is consumed in the first place, is a relatively obscure topic in the world of polyethylene and plastics, because if you look at what polyethylene consumption means, you have a lot hundreds thousands per market of small plastic converters. They take those pellets and they turn them into usable plastics. And to me, it seems that data collection there may not be as well
developed as for let's say, oil refiners. Or maybe I'm just ignorant about it, but that's been my observation so far in the industry that demand numbers are hard to get by. So, circling this back to where we're at right now, three four weeks into this scenario, i'd be careful with any concrete data points you're seeing, or any general statements about demand being down, about supply being cut force measures. For sure, we've seen an incredible high amount
of statements of production being cut. We can also get into the details of which markets how much. But if you look at across Asia, you've had about thirty to forty crackers probably that have made statements in one way, shape or form quite often though that just pertains to production curtailments and not per se a full shutdown or force measures, meaning that they cannot guarantee that they can supply their contractors with whatever the contract stipulates. Very long story,
slightly less long. So far, my take is the impact has been relatively limited on the material front, we have seen price increases by the way, especially on the NAFTA front in Asia, but I would be very surprised if this does not deteriorate very significantly over the next two to three weeks.
By the way, I genuinely wasn't sure about this. There is polyethylene futures the trade on the dally On Commodity Exchange. We have quotes on this. You could see they're traded in lots of five metric tons so in USD and in the beginning of the year it looks like they were trading at around nine hundred and twenty five dollars for five metric tons of polyethylene. Now around thirteen hundred dollars,
so the price has already surged massively. I'm curious though, like when we think about the market for some of these chemicals that you track, how much is it sort of open liquid markets versus long term contracts, et cetera, that you know, sort of dark prices that the public would never see because it's an arrangement between a producer and a specific buyer, et cetera, versus more clearing house model. Like talk to us about pricing transparency that we have in this market.
Ooh yeah, I love it. Just quick disclaimer here, there's subtopics that I know more of and our topics that I know less about. This falls into the category of the latter. But to my understanding, when it comes to prices and contracts in the polymer markets, the vast majority is stipulated by our contracts, although they're typically relatively short lived on a monthly quarterly basis. That's observation. I may be wrong, and in terms of the spot market, they're
relatively small, but the spot market is real. But the spot market is usually where you see those price distortions firstly showing up right, And when it comes to the first three to four weeks, especially, this week has been relatively This week actually had quite a phenomenon because I just checked the prices an hour ago and I was surprised by polyethylene in East Asia apparently stagnating over the past week, which to me, either something is wrong with
the prices that I was looking at or some of my theoretical underpinnings are slightly off. So I'm curious about that for the next couple of days.
Last weeks, didn't that happen during COVID as well? Wasn't there a big arbitrage between like polyethylene prices in Europe and the US versus Asia. There seem to be these regional differences one hundred percent.
It depends on which part of the value chain you look at and whether you're looking at margins, which is what most companies are really curious about, right, how much profit can I actually make out of this versus prices. So, if you talk about polyethylene prices, for example, they're comparatively low in Asia compared to Europe. The US is also low, but the US also only pays a fraction of deproduction costs because US is ethane or gas based, Asia and
Europe are largely NAFTA based. And the reason, by the way, it is an important asterisk, almost going into a side tentionineer, but it's very common within our industry to talk about how ethane gas based production is more competitive, is cheaper. But one of the principal reasons why this is the case is because you only need one point two tons of ethane to produce one ton of ethylene, whereas if you produce ethylene vi enofta, you need about three point
two tons of nafta. So you just need a lot more feed stock, and obviously you get a lot of byproducts. But then for NEFTA ranking in Europe and Asia, their competitiveness also hinges a lot on what the price movements are of those byproducts.
Just as a side note, by the way, I'm looking at the European naphtha swap of this trades in the NYMEX that is at eight hundred and forty two dollars per metric ton right now, but that was around four hundred and ninety six at the beginning of the year. So all of these different chemical polymers that you're talking about massive spikes obviously in the Big spike obviously since the start of the war. What does it mean when force measure is declared? What is that actually entail?
You tell me, no, it depends a lot. Usually, again, we like to talk a lot in certain terms. I think a force measure colloquially is implied to mean, oh, production is fully cut. It kind of depends. So to give you one concrete example, OK, one, what chemicals in China has, amongst otter is two very large crackers two point two million tons in two total in Yuantai, Shandong region, hopefully not butchering the pronunciation too much. They declared force
measure for their supplies to the Middle East. So I looked at this and I was what does this mean? So you dig further, try to find something specific. The only thing I could find publicly announced is they're declaring force measure on their supplies to the Middle East, which to me was very interesting because in the first place, very few Chinese producers are suppliers to the Middle East of certain chemicals in the first place. So the bottom line here being that when you read force mature, at
least that's what I'm doing. If I don't find anything specific, it's a big question mark, and I usually assume it means reduced run rates. Question is then also by how much kind of a floor for a lot of crackers is fifty to sixty percent of their total capacity? Below that, it quite often is said it gets uneconomical. But it is a big question mark to me at least.
So this came up in the context of jet fuel. But the sort of the implied barrel price of jet fuel is higher than what a barrel of oil is trading for right now because of this dynamic where there are finers are running slow because it's costly to actually have to straight up shut down. Can you talk about that in the context of some of these chemicals. Does the same phenomenon apply that it is a very costly
business choice to actually shut down the refinery? And do we see a widening spread between where the price of oil is right now in the implied price of oil by the end product price.
Yeah, that's a great question. If I'm not mistaken. The spread has increased a lot over the past three weeks. Okay, both in Europe and in Asia, but especially NAFTA price in Asia have searched. So here the following hypothesis. To me, it seems based on what we've talked about earlier, how chemicals are used, with a lot of it going into packaging. And let's define actually how much. So polyethylene consumes about sixty to seventy percent of ethylene, which again is the
main product that we're getting from NAFTA cranking. So let's just say close to more than a half of NAFTA in one way, shape or form is used for polyethylene and those type of chemicals that are used for hankeraging. So half of it is pretty much dictated ish by the packaging sector own reality is more complicated than maybe we can cut it to one third or so. It's a huge chunk right away. And to me, again, dead sector seems pretty non fungible. It's very hard to really
destroy a lot of demand within an industry. If we talk about jet field des on gasoline, on the other hand, we can introduce Carlos Sundays, we can introduce or people well, at the end of the day, if flight tickets just become too expensive.
Side to another flights this period.
So to me, it seems that diesel gasoline and jet fuel have more wiggle room for demand destruction. Thanta, That's my current hypothesis. And again maybe I may be proven wrong on that, because it's also the first time for me being in such a scenario, and I mean for all of us in a way. But so when it comes to the spread between crude oil and AFTA for both Asia and Europe, my expectation is that, well, the argument seems to be very strong that death will increase
over the next week's potentially months enough. A big question also that I'm just throwing into the room is how viable is it for refiners to actually shift more toward NAFTA production, both from an economical and just engineering perspective, right, because within the industry we often talk about those things as a given NAFTA production is kind of fixed, which to an extent is true, but also not true at a certain point. And maybe there are some chemical engineers
here that note is better than I do. But at a certain point, it may even become feasible to switch some road fuel production toward NAFTA production if in the demand destruction on gasoline becomes stronger.
Enough to I want to go back to you mentioned China for a second, and I remember seeing headlines about China's petrochemical boom and worries about a glut in the market, and I think some of those headlines were like two months ago, Yeah, can China pick up some of this production? I assume it's getting some naphtha from I would guess Russia or Iran at this point, Like what's going on there?
Yeah?
Big question? Short term? No, short term minus if you would have a lot of production within refined be shifting away from gasoline to NAFTA minus de scenario, And again I don't know how technically feasible that is. Or economically for a lot of refiners. But other than that, I don't see any possible way where you could compensate for that, right, because let's be specific, So we're talking about again assuming a full disruption here we talk about roughly seventeen to
eighteen million tons disappearing from the Middle East. We talk about South Korea, Japan, so major Asian players, to be specific, we have South Korea first, Japan, Taiwan, Singapore, India, Thailand and Malaysia and Indonesia. Those I think should be eight. Now, if you take them together, they probably have an ethlene production capacity of around forty five million tons ISH. So China and them together is about one hundred million tons,
China sixty million, those others about forty million together. Out of this forty million depending on again what happens, but probably weren't thirty million. You could potentially discard is it. Don't quote me on that exact number, but just to give a ballpark, right, I don't see any possible way how you could compensate for that. You have some wiggle room because some cracking facilities were operating at lower rates.
You can compensate there in the US especially, But if you assume, for example, that the US was running at about eighty five percent before and they would go all the way up to ninety five hundred percent now, so ten to fifteen percent difference. That's about four to six million tons added. So that's basically one tenth of what more one eighth of what would be lost in the most extreme scenario. And when it comes to China, the
thing is that those crackers are large projects. They take time, and the world at large had an incredible, incredibly large pipeline for twenty twenty six, which is ironic and which is why I emphasized polyethlene so much, because the amount of projects like World Skill projects that are very well covered and no uncertainty about whether they would come online or not until now there were set to come and now they seem largely either off the table or a
big question mark. So I don't see anyway in the short term to compensate for such an extreme shortfall if that were really to manifest to the utmost extent.
That's a really good example of how these short term disruptions can linger for years and years and years. Okay, one other question on trying to fill the gap in supply what about recycling existing plastics. I mean, we've been told for years and years and years the world is a wash in plastics. Like, okay, let's do something with that.
Yeah, that's an excellent question. I don't see why recycling should not get a major boost from this. If this persists to me, that seems like a very reasonable solution. There are obviously a lot of asterisks where recycling as its own fair share of complications in terms of having to firstly distill the different types of streams. You also need production facilities for this, which also again needs time
to be built. I'm oddly unaware of the existing utilization rate or of the utilization rates of existing recycling facilities, but.
Which tells you something about the importance of recycling intromic chemical analyst career.
But yeah, exactly right, it's very much under fringes. I very peripherally aware of it. But when I think about recycling facilities that I read on more anecdotally, they're usually in the range of a couple of tens of thousands to maybe one hundred thousand tons per year of production capacity, which compares to a world scale cracker that's usually one to two million tons. Right, so that's an order of
magnude lower. That's said, if you look at the total share of global polymers that are in circulation that come from recycling, I find it hard to give an exact number, but maybe one tenth or so because it depends on the substream. And again it's not my forte per se. It's a reasonable amount, and I could definitely see, especially within the timeframe of a couple of months, that this would gather a lot of speed or it would become
priority to fill some gaps somewhere. But again it probably falls short very significantly from really fixing the problem.
When we did a recent episode about natural gas, one of the winners, at least in the short term was coal, and that contries that can't get natural gas, they're gonna turn to coal for energy, And you see coal prices creeping up. What about cold liquefaction? And in the short or medium term, I mean, you could turn coal into oil. The Germans did that during World War Two and that's still a thing. Can that in the medium term be uh, just derive our plastics from coal?
Medium term? Sure, but I don't think medium term is the problem here. Yeah, if we define medium.
Yeah, I guess right, right, that's not gonna help us, right if we but like you know, if we say, like you know, this is gonna re shape, like you know, like the longer that this goes on, and we don't know how long that this is going to go on, could call at some point in the short to medium term be part of the solution for the origin of our plastic beautiful question.
I think the bigger questionnaire is well twofold. Firstly, if this continues, will it reshape how the global chemical industry works? And the second part is maybe have you already reached
that point? Because I think even if things were to quote unquote normalize, whatever that may mean right now, I think one major problem that we face is that the perceived risk of passing through the strait of hormoos has changed, and a lot of Asian producers were already on the cusp of closing their business, and by a lot of means South Korea, Japan, Taiwan, Singapore, especially if you take them together we talk about soufth Korea has thirty million tons,
Japan six million tons, Singapore and Taiwan both three to four million tons, so collectively close to thirty million tons. It's a lot. Not all of it was said to be closed, but to me, if I looked at the fundamentals, it seemed reasonable to assumed that by twenty thirty, about thirty to fifty percent of this could disappear.
So wait, sorry, why very long story short?
Because the overcapacity that was in the pipeline, especially for polyethylene, was so severe that the case was very hard to make for some units to stay in business.
Right.
My hypothesis here is that what's happening currently their increased perception of risk through the strait of harmons for an industry in a market that was already perceived to be well, really going downhill pretty much could really lead a lot of facilities to just close down over the next couple of months quiet, and I would be very surprised if
that does not happen. Then the question becomes what happened? Well, two questions here, firstly, what happens afterward if things indeed normalize, and then secondly, for the entire pipeline that exists for the next four to five years, A lot of it was also in Asia or the Middle East and hinged on feedstocks coming from the Middle East, what happens to that and to go full circle here into your cold quest,
that's something I looked into and that I wondered. So to put it into perspective, China right now has sixty million tons of ethylene capacity. Roughly fifty million tons of this is oil or gas based, so it comes from cracking. Ten million tons comes from coal okay slash methanol. Side note here also that because how it works is that coal is converted to methanol, which is then converted to ethylene or propylene. Methanol is also imported from the Middle East,
so that could also cut into that production there. But when it comes to coal, it would need a really huge push. So now we have ten million tons of ethylene, we have another roughly three to four million tons in the pipeline because China has been revitalizing that already before the war. But the push again would be extremely significant.
You would be talking about basically three to four fold quadrupling the sector over the next couple of years, right, which in theory could happen, especially for a country such as China, which has proven in the past time and time again that it's very much capable of completely reva being industries. But it would be a big push. I
think what's more likely to happen is three things. So firstly, renewed again also depends obviously on how long the supplying disruption is, but I think we're well on our way. I think one renewed interest in the Western hemisphere, using Western hemisphere here more broadly, because I would say for the US there's also a couple of asterisks in terms of the political environment where that is not considered to
be too volatile. That out of the way, though, if you talk about chemicals and the potential there, there was a significant slowdown because of this overcapacity. But US producers right now are having a heyday, and even if this does not continue for a long time, I think again that this heightened risk, or this heightened perception of risk at hormos, really shifts a lot of production potentially to
the US. So I'd be surprised if you would not see a lot of renewed interest in US ethane, in US chemicals.
Yeah, this was going to be my next question. Actually, So I'm looking at a chart right. This is going back to the beginning of our conversation. So this is a chart of sensitivity of different oil or fuel products to demand destruction.
I'm cheating, like on an exam. You can't see it. I'm in the studio. I'm leaning over and looking at Tracy's Lovetimes like I needed to get a look at it.
So it actually it has now, JP Morgan, Yeah, so it has. You know, jet fuel is pretty sensitive because, as we were talking about earlier, if the price of jet fuel goes up, flights tend to get curtailed. It also says that NAPA is pretty sensitive. And one of the reasons NAPA apparently is sensitive is because if prices for NAP that go up, then petrochemical plants can substitute ethane, which it seems we're starting to see. I'm also reading
a Bloomberg sty I'm doing my research for this episode. Wow, we're in the middle of the episode. But regardless of that, there's a Bloomberg story that saying that US producers of polyethylene are buying more ethylene to make plastics. What's the substitutability of ethane versus naphtha? Because you touched on this earlier, but I really want to drill down on this point.
Not very high. Okay, So two things here I realized I like making a lot of lists without completing them. But maybe you can get full circle on the other topics later. But on this two things. So first is just technical substitution. So the furnaces that are used for ethane and NAFTA, they're pretty different in a lot of ways that they're configured, So switching between those two is
pretty difficult, very specifically. One major problem is the type of products that you get from both, right, So if you crack ethane, you principally only get ethylene in notable amounts, Whereas if you crack n after you get ethylene, you probolene, you get butted eye, and you get.
Benzy byproducts you mentioned earlier.
Exactly right, and they need to be separated. And there is a whole post this cracking section for that that
just vastly differs for enough to cracker versus ethane. I think one common point of confusion is, so you have three major oil or gas EATUX streams, you have NOFTA, you have LPG and ethane, And I would group LPG and ENOUGHTA as being more together than alpg and ethane, despite the fact that LPG and ethane are colloquially kind of referred to as being gas based, but LPG also gives a lot of byproducts, so the substitution possibility there
is higher than for ethane. And also if you just look at the practicality of it, they're comparatively outside of the US and the Middle East, they're not that many crackers that use ethane, and if they use ethane, they typically fully use ethane, not exclusively. There are some exceptions, such as I think the one Hua Chemical Untie cracker that I mentioned earlier one of those actually runs partially
on ethane partially on NOFTA. But typically if a cracker fully runs on ethane, it fully runs on ethane, whereas for a lot of NAFTA crackers they play around with the LPG share depending on the price movements.
I've learned a lot from this conversation. I would be lying if I didn't say that. You know, I'm gonna have to go back and look at what some of these things are whatever, But just to help me we conceptualized with some of these things are. I remember from a Liberation day the trade fights in twenty twenty five. One of the few things that the US exports to China in mass other than soybeans, is ethane. I don't know what is it? Can you just explain that? Why
do we have a lot of extra ethane? Why does China need to get it from a lot of US? And what does it go into?
It all depends on what we mean by a lot. That's a very relative term.
I wouldn't know that about half of all US exports of ethane, which is extracted from US shell guests, which probably explains why we have a lot head to China. So they what's the deal with that?
Yeah? So firstly, that mainly comes because the US is a very large producer of shell gas, which yields a lot of ethane LPG. And because the US has will basically exceed it in its LPG ethane production what it domestically needs, it has started to export a lot and that's still ongoing. We still have some new terminals coming up in twenty twenty six and beyond it will increase
the capacity for LPG and ethane to be exported. But the reason why I answered this question skeptically initially is because if you look at a total volumes you talk about China, if I'm not mistaken, in twenty twenty five imported around five or six million tons of ethane and you can make one around five to six million tons of ethylene from that, which is about ten percent of China's production capacity, right, So is that a lot kind of ishi?
So there's kind of a lot relative to US industry, but it's not really a lot of the grand scheme of how much China is using and produced.
And even for the US, this is probably if we convert this into into barrels per day, it's probably around two hundred to three hundred thousand barrels per day, which is which.
Even this article I'm saying says about half of all US exports of ethane go to China, which means this is just a fraction of total ethane production.
In the US exactly. Okay, So that's I think the entire ethane story is relatively if I can use the word over hyped, because I think if you just re read the articles, it seems like there's a huge wave of new ethane crackers in Europe and in Asia, et cetera. But if you really double down on which facilities they are, and in Europe it's one, it's project.
Yeah, the ethane hype ends now.
I think, by the way, by the way, you guys to actually finish one of my lists. Because I was mentioned earlier how there are two points on us and ethane and how much flexibility there is there. I think another thing is just production volumes dead goes up, but it goes up steadily. To me, it seems very unlikely that production could search by that much that you could really substitute for any notable amounts. So that's the second
point on ethane substituting for NEFTA. There's just there are limited supplies for now that can go up, but also that takes time.
I have an informal gauge of how bad things are, and it's the sort of cocktail party question type thing. But you know, when we're going out and speaking to people now as a petrochemicals analyst, how many people are starting to actually get very interested in the future of plastics and maybe get very worried when they talk to you.
Both To assume I go out and speak to people, we'll stop there, no pooh, I think the conversations have changed. I mean more on an informal note here, right, because I've been in the industry for four years, Like I mentioned oil more broadly, two years in petrochemicals, two years during the first two years, and maybe that was also more than sidegeist. Back then twenty twenty two to twenty twenty three, a lot of the conversations were about the
morality of working as an oil analyst. But now a lot of that has dissipated, Or maybe I just don't talk to those people anymore. I'm not sure, but I think nowadays, people, to my observation, approach those questions a lot more practically, and a lot of people are well
about petrochemicals. I think a lot of people are more curious about the baseline understanding of how the industry works, if they're curious at all, right, because I mean, quite frankly, for a lot I strugg I talk to people from time to time, but very rarely actually about petroc chemicals.
Also because it takes kind of a baseline denominator to get into it, and I feel that you need to bombard the counterparty with a lot of baseline information to kind of get to an interesting point, to which I'm like, they're probably also not that interested in.
Then well, I have one last question, which is just tell us about the next several weeks and what are you looking out for and how bad could it get? And what is the time frame for that? Give us your sort of outlook and telling clients they ask how bad? What's going on? And let's suppose we none of us know when the war's going to end. It could we're recording this March twenty four at nine fifty three am. It could end by the time this episode comes out.
But let's just say we don't know the war's going on in a month. Supposed how what are.
We looking at? Still one asterisk there, whether the war continues or not, which we talk about and buyingary terms. It does not mean that the strait of her moves will become accessible again. That's just important to So that's
when I look over the next weeks or months. Again, I usually abstain from giving any political commentary, but to me, as an analyst, just looking at baseline assumptions over next weeks or months, the assumption that the strait of her moves will become passable again, to me is very hard
to make. So that's my first really major takeaway, at least when I look at my own forecast outlooks, which partially have become completely obsolete, I need to overhaul, but I'm very inclined to make that assumption, still waiting for a couple of days weeks to see how things develop. But that's my first really major thing that I just find the argument that the strait of her moves that things returned to normal in terms of shipping incredibly hard
to make. So point number one. Now, when it comes to chemicals, firstly spread between NAFTA and crude oil, especially in Asia, I expect to search, especially to search in early April. The reason being because Asia still has to tap into its inventories naught to inventories. They're not a lot, but they can can cover a little bit of ground. We again still have to see the impact of the voyages. I think we've just bought that time. We're now entering
the phase where you really see more material shortages. I think all of that will peak in early April, and then again technically depends on what happens next. That's point
number one. Point number two, what I'm really looking out for is any announcements on projects that we're in the pipeline from China and technically the Middle East, but the Middle East I have already kind of provisionally done away with with well, that's probably not going to work out in twenty twenty six, twenty twenty seven, any projects for planned for twenty twenty six. What happens there? Point number three, what is China's strategy here at large going forward? Because
China has in a very interesting position. It's not as badly affected as Self Creer or Japan, but it still changes a lot of things because well for a lot of new facilities. For example, so China had about twenty million tons of new athlete capacity in a pipeline, almost all of which coming from cranking, almost all of which coming from after a lot of which hinging on crude oil coming from the Middle East. What happens to that?
That's a big question mark to me, and I'm curious to see indeed, whether we're going to see a shift more toward new call based facilities. I think that would take a couple of months rather than weeks, but that's
something I'm looking out for. And in the same vein two more points, one being Western Hemisphere US where we see a research interest in investments, and Western Hemisphere Latin America and Bolivia, Peru, Venezuela, which had a lot of interest in the chemical industries in the past, but it was dropped again. Well, we see a renewed interest there and potentially in Argentina with a lot of shell guess.
And then lastly Europe. Europe is very interesting because up until recently I've been going on and on about how your chemical industry is in decline and it was now ironically, and this is a big topic of debate, but I take the stance that all of this is happening very much more likely than not is a net benefit for
a lot of chemical producing Europe. And this is a big topic to unpack, maybe for another time, but I would definitely be watching indeed whether this turns out this way for European producer.
Philip Gratz, thank you so much for coming on all thoughts. Really enjoyed the conversation. That was a lot of fun than.
Two guys, Joe.
That was a lot of fun. I always appreciate analysts who come with the numbers just memorized right, and just rattle off like, well there's a difference between production versus capacity, all.
Of that, right, Or there's like okay, South Korea, Malaysia, Japan, Indonesia, all right, Singapore, That gets you to forty four million. That. Yeah, Now, people who can do that, those are the people that always know their stuff and details matter.
But the last question you asked about, you know what Philip is looking out for and his answer. I wrote about this in the Authoughts News yater yesterday, which is why it's on my mind. But like when we're talking about the closure of the straight of war moves, we're basically talking about like the choke point of all choke points in the global economy, right, And obviously oil is a big part of that, but as we just learned
in this episode, so is petrochemicals, so as fertilizer. We've done previous episodes on that, and so it strikes me as almost inevitable that people are going to come away from this experience, no matter how long it goes on for with the intention to build out their own capacity
or secure their own supply. And it was interesting even in a place like Europe, which we tend to think of sometimes as in structural decline, certainly in terms of its chemicals industry, even there, like you could see a revival as a result of this, even you know, three weeks worth of disruption.
Yeah, I really think this is the main story. It was the main story before the start of the Iran War, and now clearly an accelerant to this story, which is just every country wanting to have greater capacity domestically and to be less reliant on choke point. Look, if we knew for a fact that the straight ofform moves was a going to reopen just as it was a month ago in b never close again, how would you possibly
know that? He's like, oh, we don't need to do anything, but like, we're in a state we know now that like it is closable, we know it's closed. Not only do we know that it's closable, we know that it's closable without a particularly large military effort. That you fire a few drones or missiles a day, not even in a particularly costly effort, and you can bring so many industries and so many countries and so much activity basically
to a halt, that fact can never be unknown again. Basically, that's sort of what Teleb talks about when he that is sort of the significant of a black swan. That word gets abused a lot because every time an event has a black swan. But the key insight where I find it actually to be a useful phrase is if you think all swans are white, and you see a black swan, then you know for the rest of your
life exists. Then you know that they exist. And so it is a black swan in the sense that if the straight of horror moves can be closed, which is something that people have contemplated before with relatively little effort, you're going to know that the rest of your life. And that's going to change planning for the rest of
your life, and it'll be really interesting to see. It's also just interesting, I think his point about how because of Chinese supply, so many of these Korean, Japanese, et cetera. Crackers were already in trouble. Yeah, and now what's going to happen there? I mean that is also a really big structural shortage, this sort of the milkshake of economic activity pouring into China relative to everywhere else, So lots of things going on at once. Well.
Also the non substitutability of polyethylene, especially package like the idea that we're not all suddenly going to switch to burlap bags and bring our own like wooden crates to pick up like beams from the Yeah, I could see that being an esthetic choice, but that's not to keep so not scalable. All right, shall we leave it there?
Let's leave it there.
This has been another episode of the Odd Lots podcast. I'm Tracy Alloway. You can follow me at Tracy Alloway.
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