With the imminent start of the winter season, several trading shops have assumed significant bull positions in US and Middle East LPG for Q4 19 and Q1 20. They are betting big not just on the traditional boost from changing gasoline specifications and heating demand, but also on increased split-cargo appetite from India, rising propane demand from new Chinese PDH units and Indonesian residential demand. We are skeptical that gasoline demand will soak up excess butane supplies so the question today becomes does the demand boost from India, China and Indonesia merit the bullish sentiment now piling into these winter strips? We think not.
We expect 2019 LPG demand growth of no more than 0.17 mb/d y/y from these three countries, while we are forecasting 0.57 mb/d of y/y supply growth from the US alone and a 29 thousand b/d y/y increase from the Middle East as Qatar and Saudi Arabia offset lower Iranian production. On our balances, US net LPG length rises by 0.19 mb/d y/y this year and this imbalance should become especially acute in Q4 19 as domestic producers have backloaded their drilling programmes to capitalise on the seasonal demand uptick.
US LPG exports would have to rise by a further 0.12-0.14 mb/d y/y on top of our current 2019 forecast of 2 mb/d (+0.37 mb/d y/y) in order to not strain inventories. We struggle to see how this can be achieved, especially since the Chinese market has effectively been closed off to US LPG by the trade war. India, the other big centre of Asian demand growth, is geographically predisposed to rely heavily on Middle Eastern supplies, and Indonesian demand alone will simply not be enough to soak up US supply. US prices will have to soften further in order to make its netback more attractive to buyers in East Asia.
Despite Asian demand growth being dwarfed by global supply growth, we see Saudi contract price swaps being supported in Q4 19 and Q1 20 by China and India’s clear inclination for Middle East volumes. This effectively makes the bet for US bulls a perilous wager that demand from other Asian countries, Europe, and Latin America will show up, and that there will be a frigid winter. Early forecasts call for a colder-than-normal winter in the major consumption regions of the US Northeast and Midwest, which in an average heating season should keep about 0.15-0.17 mb/d of propane tied up in PADDs 1 and 2 (which is already included in our forecast).
But even if US LPG was priced competitively enough to entice Indonesia to pull all of its non-Middle East imports from the US, we estimate the US exports would not increase by more than 25 thousand b/d incrementally. US exporters would then have to turn to the likes of Japan and South Korea. However, we expect Japanese demand to decline by 32 thousand b/d y/y this year amid weakening regional trade activity, while South Korean consumption should only rise by 3 thousand b/d y/y, on increased petrochemical cracking demand. Even Europe will not provide much additional demand because the heavy H2 19 cracker maintenance season should keep regional stockpiles stout and ensure the tightening Mediterranean market is well supplied.
Winter has always been a volatile ride in LPG markets. With some players digging in with long positions and the rising response from market shorts, this winter could shape up to be one of the roughest in recent memory.