A Look Ahead

June 1, 2006
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Probe Economics forecasts adhesive raw material prices.



Most adhesives are made from petrochemicals. Probe Economics recently updated its Feedstock, Petrochemical and Polymer Price and Margin Forecasts. Results are presented here for ethylene, propylene, butadiene, benzene and styrene.

Probe's forecasts are driven by three energy-economic scenarios. Path A, "Soft Landing," has a probability of 40% and assumes that oil prices settle back to more sustainable levels and approach their long-term trend on an inflation-corrected basis, which is basically flat at around $35 per barrel in year 2005 dollars. U.S. real GDP grows 2.5-3% per year.

Path B, "Middle East Crisis," has a probability of 20% and assumes some kind of blow-up in the Middle East similar to what happened in 1979-80. This results in even higher oil prices than we see today, at least temporarily. Inflation and stagnant economies result.

Path C, "Flying High," has a probability of 40% and assumes that oil prices remain at high levels, around $55 per barrel (WTI, 2005 dollars). Despite these high prices, U.S. real GDP grows at about 3.2% per year.

Ethylene is the most capital-intensive chemical and is heavily affected by the industry capital cycle. There hasn't been enough capacity, so that cycle has been working very much in favor of producers. As ethylene capacity builds now exceed demand growth, producer pricing power is starting to be replaced by purchaser buying power. The outcome depends partially on the economy, but we are betting that profits will remain good through 2006. After that, all bets are off.

Probe's forecasts take into account the negative impact of Hurricane Katrina, especially on naphtha-based ethylene. Prices are especially high during the oil price spike in Path B.

Propylene supply is dominated by byproduct; byproduct supply has not been growing as fast as demand, so propylene prices have been increasing relative to ethylene prices. Propylene is produced as a byproduct of gasoline and ethylene, with the largest amounts coming when ethylene is produced using heavy feedstocks. Probe's price forecasts show that propylene follows crude oil prices and also the price of ethylene, which is a competing molecule, particularly in polymer formulations.

Butadiene supply is mostly byproduct. Unlike propylene, butadiene demand is growing slower than byproduct supply. Butadiene is used primarily to produce elastomers, such as styrene butadiene rubber, styrene butadiene latex and polybutadiene rubber. Lesser amounts are used in chemical processes, such as the production of nylon.

Butadiene is a byproduct of ethylene, and more is produced when heavy feedstocks are used. The demand for butadiene is growing more slowly than ethylene, which means that butadiene is increasingly in excess in Japan, Korea and most of Western Europe. These are the countries that use naphtha to produce ethylene. The U.S. uses mostly lighter feedstocks and therefore is a big butadiene importer.

The growing surplus of byproduct butadiene has forced a concerted effort, particularly by European producers, to sop up supply and keep prices off the floor - the floor being butadiene's co-cracking value (its value as an ethylene feedstock). Butadiene prices dropped down to co-cracking value in 2002. The ultimate floor for butadiene will be higher than co-cracking value, because it is a versatile molecule. It can be used to make styrene and nylon, among other things.

In the long run, on a global basis, ethylene is being produced increasingly in gas-rich areas, especially the Middle East. This is shifting the average world feedstock mix to the light side and will do something to reduce the world glut in butadiene. Probe expects gluts to continue to show in areas with high ethylene demand growth and a lack of gas-based feedstocks. This means, primarily, South and East Asia.

Benzene is valuable these days, which is something new. Large amounts of benzene were rejected from the gasoline pool because of toxicity, and the supply of paraxylene byproduct was expected to flood the market. Thus, refiners cut production and even dismantled some of their catalytic reformer units. Now, because of the phase-out of MTBE (benzene's replacement in gasoline), benzene is in short supply, and its price has been very high. The producers of derivatives, such as styrene, cyclohexane and cumene, have been forced to pay the price or go without, so margins realized on those chemicals have suffered. The benzene shortage has just about run its course.

Benzene is produced in four ways: as a byproduct of ethylene production; as a byproduct of gasoline production, through catalytic reforming; as a byproduct of paraxylene production, through toluene disproportionation (TDP); and on purpose, through hydrodealkylation (HDA) of toluene. The HDA process has almost been squeezed out of existence because enough byproduct is available from other sources, particularly from manufacture of paraxylene. Because it is still the marginal source of supply, HDA continues to set the price of benzene. If and when HDA drops out of the picture, the pricing mechanism will be different. TDP may be the marginal, price-setting source. Normally, having a byproduct as the marginal source would depress prices. However, TDP operators usually cannot afford to depress the benzene price very much as it is a crucial part of their revenue stream, except when paraxylene prices are sky high.

Styrene is used to make thermoplastics like polystyrene, ABS and SAN, and it is also used to manufacture elastomers, thermoset resins, and syndiotactic polystyrene - a new metallocene-based polymer. Styrene prices and margins are volatile. The styrene market has many buyers and sellers, and traders and speculators influence it. The latter thrive because styrene is easily stored and shipped, and the market is of a manageable size.

Probe's forecasts show styrene margins weakening. At this time, styrene spot prices are falling into the low 40c range, which could mean even more weakening than we show in our forecasts.

Frederick M. Peterson, Ph.D., is president of Probe Economics Inc., Millwood, NY. For more information, visit http://www.probeeconomics.com .

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