The rise of the US Dollar in the last twelve months has been something of anomaly. When pitted against an uncertain global economic backdrop such as economic turmoil in the Eurozone over Greece, amongst others, along with Japan struggling and ongoing concerns over Chinese economic growth, the reason of the rise of the American greenback currency is not so clear. However, others say this is not at all surprising with the US economy performing well – the IMF predicts that GDP growth will be at 3.1% this year – the rise of the currency becomes much easier to grasp.
In simple terms the mechanics of this are quite easy to decipher. With suggestions that US monetary policy may tighten in the future along with other central banks across the globe loosening or sticking to their policies, investors can make higher returns from dollar denominated assets. Thus inducing capital investment and boosting the value of the dollar. However, while this may be the upshot for those with dollar assets, American firms that sell abroad are hit. According to the Economist, about one quarter of the profits in the S&P 500 are earned in foreign currencies. This is a fact that has not been lost on some chemical producers in recent results releases. Matters are complicated further when one considers the issue of oil prices and how the subsequent decline of commodities linked to oil have eroded profit margins. All of this, against the uncertain global economic climate outlined at the start of this article.
However, we must ask the questions – what does this mean? How does it affect the chemicals markets?
The answer to both of these questions is somewhat of a double edged sword. By their very nature, chemicals are intrinsically linked to crude oil price and therefore any price fluctuations in the latter with affect the prices of the former. Therefore, we end up with challenging profit margins. For example, speaking on their Q2 results BP’s Chief Executive said “The external environment remains challenging…In the past few weeks oil prices have fallen back in response to continued oversupply and market weakness”. So on the one hand you have the issue of crude oil but then the added issue of the US Dollar also comes into play. If we take Sasol’s latest earnings release for example, the company notes whilst earnings increased, the group’s overall profitability was “adversely impacted by a 33% decline in average Brent crude oil prices…[but] this decrease was partly offset by a 10% weaker average rand/US Dollar exchange rate”. Thai chemicals producer, Indorama Ventures, also noted that the strong dollar aided their latest round of results despite a global economic concerns. It is clear here then that the strong dollar can have a large effect. On the other hand, the US specialty chemical producers, such Axalta and FMC, saw the strong dollar takes its toll on their earnings when foreign currency conversions made their unfavourable presence felt. In the petrochemicals world US based company’s such as Du Pont, Hunstman, Dow Chemical & LyondellBasell face some headwinds as Chemweek comments that ‘second quarter financials show US commodity and diversified chemical producers [are] benefitting from a recovering domestic market but [are] challenged abroad by the strong US Dollar”.
So the answer here is clear. The chemicals markets are no doubt affected by these factors and some are obviously more positive than others. However, against the backdrop of current global uncertainty it seems that most would argue that the march upward of the US Dollar is just one more worry to add to the office in-tray. If and when the Federal Reserve or other Central Banks being to change their monetary policies is the point at which this current status quo maybe be broken but it may be more welcome to some than others!
Over the last few months concerns over economic growth were thrown around with much abandon but it was not until two weeks ago when the People’s Bank of China (PBoC) devalued the Yuan that such concerns reached fever pitch. Subsequently to this, poor data released on Friday showed that Chinese manufacturing had seen its fastest decline in six and half years, triggering big losses on the Chinese stock markets. The Shanghai Composite Index fell by more than 8% yesterday in what Chinese state media has dubbed ‘Black Monday’. Other major indexes such as the FTSE 100, Dow Jones Hang Seng and the Japanese Nikkei also suffered heavy losses. Understandably, this fall has led to considerable concern. Data from Reuters shows that shares in China have dropped 38% since its mid-June peak, erasing all year to date gains. These are big numbers and as one would expect the ‘talking heads’ of 24 hour rolling news have jumped on them with the usual doom and gloom characteristic and are talking the subject to death. However, the facts seem to be somewhat misrepresented and the usual scaremongering technique is prevailing.
Let us drill into this a little more. The PBoC’s original aim of devaluing the Yuan against the dollar was to boost exports, such an action was supposed to prop up exports which have been languishing throughout 2015 (July exports saw an 8.3% year on year contraction) by making them cheaper (of course, it has the opposite effect for imports). In reality, it was interpreted by investors as a sign that the economy is weaker than expected as the string of disappointing data releases has now confirmed. The IMF expects China to post 6.8% in economic growth this year, decelerating from the 7.4% registered in 2014. So therefore, it is no wonder there has been such concern. But is it really as bad as we are being told? As the time of writing, the Chinese stock market was actually up 40% year on year, and the European stock exchanges seem to have recovered with the FTSE 100 up 3.5% on yesterdays close!
Unsurprisingly, this has led to questions of import demand which of course is a key driver for the Specialised Products markets. China is the world biggest consumer and importer of chemicals with the latter totalling 49.5 million tonnes in 2014 according to the Clarksons Platou Specialised Products seaborne trade statistics. There have been suggestions from some quarters that 2015 chemical imports have been flat but according to our data, imports began to recover in March of this year after a negative January and February. Imports averaged a 3.6% increase year on year during the first half of 2015 to 25.7 million tonnes of which 19.4 million tonnes was organic chemicals. This is also reflected in freight rate performance, particular on the transpacific trade lane where levels are up 49.6% year on year. These figures suggest a much more positive performance than was thought. Whether the current financial issues will affect Chinese chemical import demand in the coming months is not so clear. One rather bullish article in the Financial Times recently suggests the Chinese construction market, which accounts for 10% of GDP, may have lost its boom but it is far from disaster with the Chinese still likely to buy 10 million homes this year with high deposit requirements. This of course will have a knock on effect for chemicals imports needed to produce construction materials and consequential household goods.
Despite the fact that we must exercise caution as the situation is continuing to develop as we speak (Chinese interest rates have just been lowered on effort to support the economy); things do not look so gloomy if we take all these factors into account. What is clear is that we may have entered a ‘new normal’ lower growth environment of 6-7% per annum. This certainly represents a downturn for an economy that has been traditionally export led to one of increasing domestic consumption. However, this is against a backdrop of a lower growth environment related to an economy that is a lot bigger than it was ten years ago, and such small percentage changes represent sizeable nominal values. As the data shows, the Specialised Products markets remain resilient so far and so for now the stock market correction may be nothing more than that!!
The western world was greeted yesterday morning by various news alerts that a historic agreement had finally been reached between the P5+1 (US, UK, France, Russia, China & Germany) and Iran over the latter’s nuclear programme. This agreement comes after twelve years of failed talks, a stringent UN and EU sanctions regime and varying levels of sabre rattling, grandiose rhetoric and aggressive discourse. Primarily, all of this was driven by high levels of bitter antipathy between the United States and the leadership of Iran but was often stoked by Israel, Saudi Arabia and other opponents of the deeply conservative Iranian state. President Obama has long championed the benefits of diplomacy and engagement rather than containment and isolation as favoured by his predecessor. From the moment he took office in 2008, Obama has sought to salvage a relationship with Iran in the hope that it would help bring about a more peaceful Middle East and remove the spectre that the US saw itself as a ‘global police force’. The agreement yesterday will, if approved by US Congress, lift economic sanctions on Iran in return for long term curbs on its nuclear program. The West has long suspected that the Iranian leadership has been looking to develop nuclear weapons.
There is no doubt the deal is historic and much like US rapprochement with Cuba, the deal will be an integral part of the Obama Presidential legacy. It is a humbling feeling when such a geopolitical event will have an effect on almost every international industry – shipping is no exception. Some of the sanctions imposed have meant that there has been heavy prohibition of the sale of oil and petrochemical products. Before the sanctions Iran produced 10% of world oil output and totalled 21% of OPEC’s production. According to OPEC, Iranian crude oil production reached 3.2 million barrels per day in 2010 but last year this had fallen to 2.8 million barrels per day. Due to sanctions, production and exports fell heavily with almost all exported crude going to China and India who did not support the sanctions. In terms of petrochemical products, Iranian petrochemical exports, according to Clarksons Platou Specialised Products data, totalled 6.5 million tonnes in 2011 and has subsequently reduced to 5.6 million tonnes in 2014. Clearly, the new deal could release roughly 1 million tonnes of exports back into the market, so there certainly will be an impact although maybe not at the same scale that many might assume. Reports emanating from Iran suggest that there is a drive to increase petrochemical capacity and several projects have been announced, but it is unlikely that these have been built yet due to a lack of parts needed from other regions. Therefore, looking further ahead the market may find itself flooded with key petrochemicals such as polyethylene and methanol (according to ICIS) in the not too distant future.
These are all interesting developments but any ramp up in production and exports is expected to be gradual and is far from set in stone yet. Before the deal can be implemented it must be ratified by the Republican controlled US Congress within 60 days who will likely vote it down. President Obama has already said he will veto this but this can subsequently be overturned by Congress with a 2/3 majority in both houses. Although political pundits expect this is unlikely to happen as a large number of Democrats would have to go against their President for it to happen. The reaction around the world has been positive on the whole, apart from the notable exception of Israel and perhaps Saudi Arabia (although not publicly). All this said, the deal looks set to be upheld as long as both parties keep to their terms and thus there is little doubt that it will be a welcome change to the Specialised Products markets. Lastly, with the global oil price environment already uncertain and the likelihood of Iranian barrels flooding the market could this further boost seaborne petrochemical trade? Time will tell, and the change will be gradual but all will be watching with baited breath!
By the end of last week, the US Supreme Court had announced a whole raft of rulings on a number of controversial issues that have dominated US domestic politics for much of the Obama Presidency. In a period that political watch dogs so often characterise as ‘a lame duck’ presidency (in other words the theory that a US President half way through his second term has no control of Congress cannot get anything done), Obama is in fact somewhat on the resurgence in the face of overwhelming political opposition. As he enters his twilight years at the helm of the world’s biggest economy, the Supreme Court’s backing of healthcare reform, same-sex marriage and the Trans-Pacific Partnership (TPP), can certainly be viewed as a major coup for ‘no-drama Obama’. In terms of chemicals and the world of Specialised Products shipping, it is this final policy endorsement that could possibly shape the way the industry develops in the years to come.
For a policy position that has been so often criticised as a danger to US economic supremacy and that it goes against the protectionist measures of old, the fact that it is now law is clear signal that the US is placing a greater emphasis in Asia. Something much trumpeted by its champions as much as its detractors. Much like earlier free trade agreements such as the North American Free Trade Partnership (NAFTA) agreed in 1994, the TPP is equally as important as the US and its allies ‘Pivot to Asia’. In terms of the chemical industry, the American Chemistry Council (ACC) has estimated that the TPP could generate as much as $1.2 billion in additional chemical export growth from the US, which undoubtedly would mean a greater demand for shipping and could induce a change in trade dynamics. This is particularly poignant when one considers the level of investment of new shale gas projects in the US. TPP is an agreement between 12 countries including Japan, Canada and Mexico but noticeably it does not include the major economic powerhouse and largest chemical importer – China!
So why is this? Surely, an economy such as China’s which is so reliant on imports would welcome such a free trade agreement? Well, no. In the world of geopolitics, China views America’s Pivot to Asia as a threat to its influence in the region and the TPP is just one of many measures aimed at harming Chinese economic power. Instead, the Chinese government has embarked on its own trade initiatives in Asia most notably in the development of the Asian Infrastructure Investment Bank (AIIB) which counts over 50 countries as signatories and the UK, Germany, Australia and South Korea as founding members. The bank is a direct rival to the US based World Bank and will actively fund Asian energy, transport and infrastructure projects backed up with initial capital of $50 billion, eventually rising to $100 billion. This is a clear challenge to US policy and it has certainly unnerved officials in Washington. Drilling into this once again for the world of chemicals, new projects and ports will undoubtedly lead to another possible shift in trade dynamics which will make for an interesting trading picture in the years ahead.
For now, the US Pivot to Asia is in full swing as the country looks to challenge the rise of China but will this new initiative in the form the AIIB harm this new strategy? It is too early to say, but with another free trade deal in the works, this time between the US and EU – the Transatlantic Trade and Investment Partnership (TTIP) – then the US certainly may have several different avenues to try as it looks to maintain its position as the top global economic powerhouse. China’s challenge is nothing to be baulked at and the AIIB certainly has a lot of clout resting behind it but will it all come to fruition? All we can say is that there are certainly challenging yet exciting times ahead for the chemicals markets and the world of Specialised Products.
As is usual with the end of a quarter the market is flooded with a wave of earnings reports from a whole host of listed companies; from owners, to charterers – to brokers even! For many, particularly the general public, reporting seasons pass by having little impact on our daily lives but for numerous in the industry such reporting seasons are of real significance to show how a particular market is performing.
The last 9-10 months have seen a much discussed drop in crude oil prices due to increasing levels of production in the US and from the OPEC nations but there being concern over waning demand to use it. This coupled with global economic uncertainty, particularly in the Eurozone—Greece!, Japan, China and several other developing countries means we have been faced with a rather gloomy outlook from some areas to say the least!
For those of us involved in the world of Specialised Products the latest reporting round from the chemical majors made for some interesting reading. We know that with a decline in oil prices and therefore chemical prices, majors have generally suffered a dent in their margins with buyers facing reduced value chains and inventories halving in value also. Therefore from the start, results expectations were not particularly upbeat. We saw towards the end of last year and at the very beginning of this year, some companies announcing cost cutting and consolidation measures which were in part a reaction to stymy the impact from the fall in oil prices. However, when the starting gun fired at the beginning of April and the markets were greeted with early morning earnings announcements things were not quite as gloomy as the doomsday brigade may have predicted. For example, we see that BASF reported slightly higher volumes for its intermediates business in the quarter but lower volumes for its monomer and petrochemicals business. Whilst Shell continued to suffer from problems with its cracker at Moerdijk and reported that chemicals sales volumes were down 2% year on year. Meanwhile, general the downstream sector seems to be in better shape due to healthier demand levels. We see that Bayer’s MaterialScience division reported an overall volume improvement here whilst Huntsman’s MDI volumes increased in the Americas and in Europe. It looks as though the industry “has been riven by the drop in product prices but, at the same time, buoyed by lower liquid feedstock costs”, so says ICIS. This coupled with a weak Euro has lifted European based producers while hurting the US based ones. We see this in BASF’s report once more where its chemicals segment prices dropped by 16% and sales fell by 12% but the positive impact due to the currency effect was 8%, therefore resulting in improved margins in Europe – gross Q1 chemical earnings were up 21% to Euro 726 million.
This paints quite an interesting picture for all of us involved in Specialised Products. The latest Reuters Oilpoll (drawn from investment banks) for April, forecasts an average 2015 Brent crude oil price of USD 59.4 per barrel and an average 2016 price of USD 70.8 per barrel. This pricing is not always accurate with the oil price being so closely linking to global events and other factors but it does tell us that things may not be as dreary as they once looked. Lower oil prices in the long term boost consumer demand and drives global growth and as Specialised Products markets are so closely linked to the end consumer then further good news for producers, traders and owners may be on the horizon. Of course, in the short term, things are still uncertain but the future may now be a little brighter than it was at the beginning of 2015!
Earnings Character Showing Earning Revenue And Profitable Incomes
As with any industry sector, mergers and acquisitions (M&A) are a focal point of interest for competitors, employees, the media and in some cases it even peaks the interest of the general public. The proposed acquisition of BG Group by Royal Dutch Shell is one such example. But what drives these deals? What makes them so interesting to us?
To properly answer these questions we must look to the global environment and review the current business and financial climates. It does not take a rocket scientist to work out that we currently live in rather uncertain times both economically and politically. After what was the worst financial crisis in history we are now seeing steady growth in the US but the situation in China, Europe and Japan is not so rosy, indeed neither is the state of emerging markets particularly those of Brazil and parts of South East Asia. Europe is an interesting case study with the state of the Eurozone and the matter of Greek debt which continues to hold the EU on tenterhooks. These issues of growth are against a backdrop of political violence and unrest in the Middle East where the rise of ISIS and other tyrannical non-state actors threaten the stability of the region and are playing havoc with the traditional status quo. All of this serves to increase the pressure on capital flows, economic performance and exchange rates. This all sounds rather negative but there have been bright spots such as the fall in oil prices which has benefitted many economies, the revival of the Indian economy with a change in government and several quantitative easing programmes in Europe and Japan.
Against this, few would argue that earnings performance of the chemical industry as a whole has been robust but there are areas of weakness for some petrochemical companies. These are mostly linked to uncertain demand levels and the falling oil price which has dented performance in first quarter of this year. When one takes the geopolitical tensions and concerns over the global economy into the fold there are some uncertainties. All of these factors are central to how the chemical industry behaves on an M&A basis. CEO’s and executives are looking for growth, strong cash flows and strong earnings however they may now begin to exercise some caution because of these factors. To put this into perspective, let us briefly look at the figures. According to Young & Partners there were 108 chemical deals completed in 2014 compared to 83 in 2013. This is a 30% increase in the number of deals completed year-on-year and a higher number than any year since 1986. Looking across all of these, the two leading chemical sectors were commodity chemicals with 33 deals and high value petrochemicals at 28 deals. (See Equity Deal Value Table for USD Year-on-Year Figures)
However with the uncertain outlook it is likely that fewer deals will be completed this year but Young & Partners says that the appetite for such activity will continue despite this due to demand for growth and the build-up of cash amongst strategic buyers and available low cost debt financing and unused funds for financial buyers. They say that “We expect that 2015 will see at least $55 billion in completed deals and the number of deals completed will slow down from last year’s 108 to below 90”. For Specialised Products and the shipping markets M&A activity in the chemical industry is an important indicator of how the trade is performing and it could be argued that an increase in M&A deals may serve to reinvigorate the Specialised Products marketplace.
All too often the usual rhetoric of doom and gloom surrounds growth and the economy in all matters, not just the petrochemical world. However, following a release of the latest US petrochemical growth figures from the American Chemistry Council we can see that there might yet be some light at the end of the tunnel!
For 2015, the American Chemistry Council (ACC) has forecast 4% growth for the chemical sector (this figure excludes pharmaceuticals). This is quite a jump from previous growth rates where the ACC has given lower and less optimistic forecasts – 2.4% for 2014, 2.7% for 2013 and 1.9% for 2012. The reasons for this optimism, says the organisation, is because the overall US economy will also grow over the year thus spurring on the petrochemical industry. The IMF predicts that US GDP will grow by 3.6%; a higher estimate than the ACC’s 3.2%.
The key reasons for these predictions are linked to higher consumer spending due to higher wages, employment and lower fuel prices: ‘The overall net [effect] of a virtuous cycle is going to kick in’ says a senior ACC policy director. Naturally, these factors contribute to growth through increased consumer demand but there is also expected to be growth in the house building and automobile markets both of which are key chemical end user markets.
This is all very upbeat stuff and will help inject some energy into the Specialised Products markets which will no doubt come as a relief. That said, we need to look at this a little more objectively and recognise the US petrochemical industry will still face challenges this year. Chief among these challenges is that of the falling oil price which have fallen dramatically and caused a sharp decline in rig counts which in turn has caused lower demand for oilfield chemicals. Oil prices have also caused prices for downstream chemicals to fall which led to some companies destocking at the end of 2014, although ICIS reports that these same companies have now stopped this. However, oil related threats remain including being stuck with high inventory levels, being locked into long term contracts obligating companies to buy fuel and feedstock at earlier higher prices and the erosion of margins for some products such as naphtha. Naphtha prices have fallen with oil thus reducing costs for foreign producers who rely heavily on the feedstock. The only area not affected (for now!) by the falling oil prices are the whole raft of projects related to shale gas, as mentioned in this report before: No company planning on building large petrochemical plants has announced any cancellation with the exception of one gas to liquids project, but this was a fuel project rather than a chemical one.
So with these reasons it is possible to see why the ACC has predicted such strong growth. There is no doubt that low oil prices with inject some much needed stimulus into the economy thus boosting GDP and demand for chemicals. In the long term, the future looks brighter but it may be a rocky road in the short term which leads us to coin the phrase once more that the overall outlook is one of ‘cautious optimism’ for the US and Specialised Products markets.