SIMON SAYS: Meltdown?

Submitted by Simon Hill on Sun, 03/15/2020 - 17:00

Wow, it’s been a week to forget, and it looks as if there’s more bad news on the horizon, for the markets, for energy as a whole, for LPG, as well as for you and me. Last Friday the Dow Jones stood at a hundred or so points off 26,000, and in one week it had fallen to below 21,500 points, but with a degree of “dead cat bounce”, and a positive reaction to President Trump’s emergency coronavirus declaration and financial stimulus programme, it’s jumped back up to just over 23,100 by Friday’s close. Although the President announced a buying spree, whereby the U.S. government will purchase “large quantities of crude” for lodging in the Strategic Petroleum Reserve, the oil market failed to react in the same way as the Dow, finishing the week just under $10/ Bbl down on WTI, with even the dead cat failing to show. The West is quickly waking up to the reality of the dramatic spread of the coronavirus worldwide, while at the same time trying to fathom out what really lies behind the feud between Russia and Saudi Arabia. The two are undeniably linked, but their impact has been even more striking than anyone could have ever imagined, let alone expected.

When the Russians said no deal, Saudi Arabia became hellbent on punishing what they felt were the “treacherous” Russians. They decided to slash prices to their own, as well as Russia’s most important buyer, namely China. They announced production would be increased within a few weeks by a staggering two million Bbls/d. The impact on world markets was as staggering as the coronavirus pandemic itself, with prices dropping by one-third overnight, triggering a massive sell-off of oil stocks, followed by every conceivable share trading on world markets. Just as the U.S. had become self-sufficient in oil, and the top world producer, President Putin decided he didn’t want to play into, not just Saudi Arabia’s hands, but more importantly into the hands of the U.S. shale producers. A three-year pact was ripped up, the Saudi’s turned on the tap, and more after-effects will follow, especially as the shale producers in the U.S. are looking down the barrel of a gun, held significantly by the Saudi Crown Prince, who until now had been steadfastly supported by President Trump. How could the domestic industry that President Trump was so proud of be attacked by friend not foe. But it is election year, and a lot of very strange things, not just as a result of the coronavirus, are about to happen, mark my words!

The key for the LPG market has not just been the absolute drop in the crude oil price itself, but the squeezing of the price gap between Brent and WTI, narrowing in one week from nearly $5/ Bbl to hardly more than $2/ Bbl today. The underlying driver for the Asian FEI index is Brent crude oil pricing, so a weaker Brent market has been clearly the force behind shakier FEI values, while the U.S. propane market relies more on movements in WTI. Therefore as the two crude oil prices have narrowed, so has the differential between FEI propane and Mont Belvieu propane levels, more affectionately known as the ARB. At the beginning of March, April’s ARB between the U.S. and Asia was sitting just above $150/ Mt, and during the 10 days of activity since, it’s been testing the $100/ Mt level, settling a little higher last night at just under $120/ Mt. The significance to the international market is ultimately the netback levels, and the talk of cancellations, maybe even the reality. As the U.S. Gulf Coast market tested the sub 5 cents/ gallon net-back levels in the mid-part of the week, market players were spinning their concerns over the Asian economy, slightly buoyed by the significant reduction in new coronavirus cases in China, but still factories starting to re-open are now going to face reduced demand in Europe and the U.S., China’s key trading partners, a reversal of where we were a few weeks ago when China itself was the demand concern.

The market is also opening its eyes to the upcoming surge in production out of Saudi Arabia, and any other oil producer eager to turn up the tap. There was talk of Saudi cargoes previously cancelled being re-instated, and as many as 4 spot cargoes being sold as the Kingdom gears up for higher production levels. Other Middle East producers, and also some in West Africa, were also indicating spot availability. So, even with renewed buying interest from Chinese importers, especially PDH propane buyers, swung into international action with the easing of the U.S./ Chinese tariff war, the supply now looks more than ample to enable the Asian market to cope.  This only heightens concerns over where we will see ARB levels in the near future. Not even a bout of fog in the Houston Ship Channel last week could spark any real drama over international supply shortages.

But, where does this really leave us, and what should we expect to see next? I’ve always said that the ARB is the ultimate barometer of the market, and it’s importance is further enhanced by its role as the slightly more visible hand in determining the international market equilibrium for LPG. However, before we bash the gong too hard for cancellations, we need to factor in where we see the VLGC freight market heading, something I eluded to in last week’s SIMON SAYS.

Already the freight rate for the Houston to Chiba voyage in April has dropped to sub $90/ Mt, as re-lets and owned tonnage scramble for employment. But there has been activity. Lifters out of the U.S. are understandably expecting ship owners to point their ships towards the Arabian Gulf instead of the U.S. Gulf, as fresh enquiries and fixtures have been abundant in the last few days, pushing Middle East to Asia freight levels up versus the decline in the U.S. standard. And although the ARB has been perilously close to theoretical cancellation levels, you’re still going to load if you can squeeze 5+cents/ gallon out of using your own ship, and as a consequence reducing the perceived shipping over-hang in the West. The heat on owners and charterers alike has been somewhat eased as bunker prices are some 25% lower, making these lower spot levels achieving circa $1.25 million time charter returns on the newer 84,000 CBMs. With BW stepping up to the mark and buying a number of FOB stems you can see the logic.

Should therefore the U.S. market be concerned about potential cancellations and narrow ARBs. It’s only a few weeks ago that I was proselytizing readers to believe that the lack of export capacity out of the U.S. Gulf Coast was about to drive propane stock levels higher and Mont Belvieu propane prices lower. Last week the percentage of propane to WTI actually jumped from the mid 30%s to just below 40%, even though the overall energy complex felt it was struggling to find any footing. Without doubt the expectations of weekly propane inventory watchers have been underscoring, when compared to larger than expected stock draws. The winter season is supposed to be just about over, but why panic about exports when stock levels are high (may be not as high as I had been expecting), and when production concerns are only going to get more acute as crude oil prices slip to barely above $30/ Bbl.

As always the LPG market has something in it for everyone, it’s what makes it interesting and rarely dull. But at a time of considerable worry for people around the world, I really hope there is a positive week ahead on the coronavirus front. To leave you with a slightly lighter conclusion, I think most of us in the U.K. are appreciative that government have been relying on the experts to determine actions in relation to the coronavirus, especially the Chief Scientific Officer Sir Patrick Vallance, or is it really Nick Teasdale?