I’ve always been fascinated by the power, control - call it what you like – that a relatively few number of companies have been able to apply in the crude oil and LPG world, especially when it comes to pricing. The most prominent of course is a grouping of countries who gather under the banner of OPEC, there were thirteen at last count back in April, but the leader of the pack has clearly been Saudi Arabia. The oil shock of 1973 swung the pricing control pendulum away from the U.S. and into the hands of OPEC, who look to control prices through its “pricing-over-volume” strategy. This new assemblage we keep hearing a lot about these days called OPEC+, came into existence in 2016 by amalgamating OPEC with other high oil exporting countries outside the group, such as Russia, Kazakhstan and Mexico. The simple aim was to try and strengthen the grip on crude oil pricing. I’ll leave it to you to decide how successful they’ve been, especially with the post-shale U.S. self sufficiency card firmly in the hand of President Trump or the future President Biden.
You could say that a similar manifestation seemingly happens in the LPG world. Global prices have been dominated for a number of decades by Saudi Aramco’s CP (Contract Price). It’s not just the grouping of nearly all the Middle East producers behind it, whether Qatar or Abu Dhabi, Iran or Kuwait, that has given it the strength and dominance, but also the reliance of Japan and South Korea over many decades for energy imports, especially from the Middle East. Saudi Arabia may currently only account for 25% of LPG exports in the region, but CP makes up 100% of the FOB export price. Only a couple of weeks ago I highlighted that Saudi CP was probably due to be knocked off its elevated perch, and that the world of LPG was increasingly being dominated by the relationship between FEI in Asia and the U.S. Mont Belvieu price. However, what nearly 35 years in the industry tells me is that the CP is pretty much inexorable, unwilling or unable to change direction.
I’ve also felt that over the last four or five years the same influence was starting to make its way into the hands of the main U.S. Gulf exporters, especially the biggest of them all, Enterprise. Now, we are talking about the U.S., and therefore maybe the word power is more appropriate word to use as an explanation. Although the actions of all the exporters, coupled with producers, mid-streamers, retailers, petrochemical and international buyers, as well as the release of EIA data, tends to determine the daily levels of pricing in Mont Belvieu, the LPG world is more fixated on the delta, the market that defines the level of terminal fees applicable at any one time for future liftings. This market has been dominated by the re-sellers, relatively free from export terminals trying to make spot sales, somewhat surprising when you consider those pre-shale years, when the likes of Enterprise and Targa were attempting to grab any import or export business they could. But the shale revolution has put exporters in that cozy position of not needing to undercut their own terminal fee levels to increase business, especially as nearly all the available export slots had been pre-sold on contract. But recent weeks have shown a few kinks in the armour!
The strength of the big four U.S. Gulf exporters, in being able to announce increased capacity expansion, see green field LPG export terminal developments fall by the wayside, contract out forward lifting slots, and enjoy good fee levels, has started to come under a degree of pressure recently. After a prolonged period of zero cancellations, in light of U.S. export capacity constraints, and strong Asian demand, directly influenced by Middle East production cutbacks and U.S./ China trade hiccups, the cancellations are back. Normally these are just absorbed by the exporters, they take the discount on the standard contract fee, but they normally refrain from popping the cargoes back into the re-sale market at heavily discounted levels. That just wasn’t cricket! However times are now different, terminal expansions have already taken place, albeit further growth has been put on hold, volumes are still flowing, as U.S. LPG production has held up quite well in all the coronavirus melee, which we thought was pointing to a brutal year for the shale players, with a sector apparently under siege. This has made exporters reluctant to just accept cancellations on the chin, especially as they no longer get 75% of the 10 to 13 cents/ gallon contract fees, as those lucrative contracts are a thing of the past. Times are hard!
As a result we have seen cancelled cargoes re-appear, in fact the exporters were already marketing available spot stems a couple of months back before the cancellation rush started. No longer are exporters taking a relaxed view, and the effect has been to weaken any grip they had on terminal fees, by not re-selling cancelled stems. Last week saw Shell rumoured to have sold a cargo at sub 4 cents/ gallon. Now those levels are pretty well un-heard of, and although it’s not one of the export terminals doing the selling, it does bring further pressure on them to drop their terminal fees lower, especially if they want to move more cargoes and bolster revenues.
As the initial post coronavirus impact on U.S. NGL production unravels, it appears propane production has come out of it pretty well, consistently holding above the 2 MM Bbls/d level. This was due mainly to the producers maximizing extraction from the areas heavier in NGLs, but also don’t forget all the Y-grade that was put in storage last year when fractionation capacity was limited. By running Y-grade in the fractionators it produces more propane in the weekly production numbers, but it doesn’t impact stock levels, as the propane component of the Y-grade has already been counted in previous EIA inventories. In fact, it also appears that production should start to improve, as fields previously shut down are slowly brought back-up, as evidenced this week by the rig count going positive for the first time in a while.
However, even though production in the U.S. is at least keeping pace with last year’s numbers, exports are struggling to keep in step, and instead of holding around the 1,200 M Bbls/d level have tended to drift down closer to 1 MM Bbls/d on a four week rolling average. That’s not good news for the exporters, who for the first time in a while have had to don their shorter-term marketing hats. But the ARB has just not been consistently wide enough, i.e. “open”, to raise export volumes, and keep terminal fees close to the 5 cents/ gallon level, the exporters probably feel is a fair value for their services. With discounted Middle East tonnes still available, due to the demand squeeze outpacing supply cuts, it’s unlikely we will see any rush to find U.S. cargoes. In fact, this week has shown how unpredictable the ARB can be, with EIA weekly propane stock numbers coming out flat, in what is still the inventory build season. The cause, well it looks as if it’s slightly lower production numbers for the week, but also petrochemical demand for propane appears to be edging up, with margins improving on the back of recent higher propylene prices. With the improved relative U.S. propane price levels that resulted, the ARB got squeezed a little.
The final “powerful” group are the VLGC ship owners, certainly in recent times, as they have been able to make the most of the relative tonnage shortage, coupled with a greater presence in the spot tonnage market. This has kept freight levels way above the break-even economics barely achievable two or three years ago, and even the holes in the road are more forgiving. Take now, we all expected sub $90/ Mt to appear sooner rather than later, but the ship owners are holding out for mid $90s/ Mt. The indicators point to more open ships and sooner, but with the unprecedented pair of hurricanes heading for the U.S. Gulf Coast next week, this can only make the likelihood of lower freight levels less. All it suggests is a further bout of cancellations, less exports and an uncomfortable time for exporters trying their hardest to keep terminal fees above critical financial levels. Do they stick or twist?