July 1, 2024

Supply driven strength in Asian petchems is obscuring the bearish fundamentals that lie beneath

The Asia-Pacific naphtha market is off to a false start this month as rocketing butadiene prices and logistical bottlenecks in the container shipping industry have added to supply-side tightening of base chemicals and polymer fundamentals in recent weeks. However, as steam crackers return from maintenance, margins will deteriorate further as Chinese consumption continues to underperform. Deeper steam cracker operating run cuts are therefore likely to occur by H2 July through to end-Q3, helping to curtail naphtha demand growth on a y/y basis.

The recent recovery in global naphtha cracks is in part being driven by improving steam cracking demand in the Asia-Pacific region, the largest net short region in the world. However, we do not expect this rally to continue through Q3 as fundamentals in the downstream petchem market are being artificially buoyed by supply-side issues, while demand growth in the key China and Japan markets remain lacklustre as macro-economic malaise weighs on consumption.

As such, we expect steam cracker operators in the region will be forced to further lower utilization rates as base chemical supply outpaces demand from H2 July onward. Once again, crackers in South Korea and Japan will be most as risk from deeper cuts due to each market’s reliance on olefin exports to China to balance.  

On paper, Asian naphtha demand when measured in imports has shown noticeable signs of improvement over H1 2024, with net imports increasing by 95 kbd y/y to 1.68 Mbd. However, the y/y increase must be looked at from the context of how weak demand was in H1 2023, in which net imports decreased by 50 kbd y/y to 1.58 Mbd, despite cracker capacity additions in China at the time. Indeed, Asia’s net naphtha imports were higher in H1 2021, during the middle of the global pandemic, at 1.72 Mbd.  

Asia-Pacific net waterborne naphtha exports, y/y (kbd)


The recent rally in demand side sentiment has been due to the seasonal easing of planned maintenance at steam crackers, combined with South Korea’s YNCC bringing back online its No.3, 500 kt/year of ethylene naphtha-fed cracker in Yeosu at the start of the week after having left it idle for around 10 months because of poor petchem demand. At full rates the cracker can process up to 40 kbd of light naphtha. However, the company indicated it would trim runs at its two larger crackers from 90% to 80-85% (Argus), although this would only reduce ethylene output by a maximin of 15 kt/month versus the roughly 35 kt/month addition from restarting its smaller cracker.  

Known Asian steam cracker maintenance and run cuts by country (kt of ethylene)


Source: Kpler calculations using Argus Media data

Adding to the bullish sentiment in the market in recent weeks has been logistical bottlenecks in the container shipping market related to the ongoing Red Sea crisis causing delays in polymer shipments. Furthermore, acute tightness in the downstream butadiene market because of a mix of unplanned and planned outages at extraction units, flexible crackers previously favouring LPG, and sky-high prices for competing products in the value chain such as natural rubber have helped keep complex naphtha cracking margins from falling into negative territory on a gross basis (see chart below).  

Northeast Asia base chemicals weekly average benchmark spot prices ($/t)


Source: Argus Media prices

Finally, Vietnam’s Long Son Petrochemical flexible feed cracker (propane/naphtha fed, 950 kt/year of ethylene) is anticipated to ramp up again next month after months of technical issues. The cracker will maximise naphtha processing due to the superior margins to propane currently. At full rates, it can process 75 kbd of naphtha.  

Northeast Asian gross complex steam cracking margins per ton of ethylene ($/t)*


*Complex steam cracker margins assume the facility includes integrated aromatics and butadiene extraction units
Source: Kpler calculations using Argus Media prices

However, despite the recent bull case for naphtha demand in Asia, we remain sceptical that it will last. Ultimately, benchmark steam cracking margins in the region are still signalling that on a net basis complex crackers are losing money, unless able to process Russian-origin naphtha or US-origin ethane (see chart above).

Although butadiene prices are currently at multi-year highs, the ending of planned maintenance in the region next month and the re-emergence of YNCC’s No.3 cracker, combined with flexible units switching to naphtha, as well as rising imports, will help bring butadiene prices down m/m, further weighing on naphtha cracking margins. Indeed, per one metric tonne of ethylene produced, naphtha cracking yields roughly double the volume of butadiene than LPG cracking (assuming the presence of a butadiene extraction unit to process the crude C4 stream).  

With spot aromatics prices counter-seasonally falling amid lacklustre blending demand globally, once butadiene values also begin to ease in the coming weeks, naphtha cracking margins are likely to be dragged back into negative territory on a gross basis as planned works at crackers end.  

Once this occurs, we expect steam cracker operators in the region, particularly in South Korea and Japan, reliant on base chemical exports to China, to more aggressively dial back operating rates, helping to lengthen the global naphtha balance versus seasonal norms through Q3. This is due to the weak macroeconomic environment in China and Japan in relation to consumption weighing on petchem demand, which we do not expect to meaningfully improve until the end of the year, once inflation and interest rates in OECD economies fall further.  

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