ANALYSIS: China's retail LPG market under stress, PDH feedstock demand still robust

Singapore — China's retail LPG demand is expected to be under pressure by slowing business activity amid tightening measures to contain the COVID-19 spread, while the end of the harsh winter by February and March limits household heating needs, Chinese trade sources said.

These factors have weighed down domestic LPG and LPG contract prices on the Dalian Commodity Exchange, or DCE, sources said, adding LPG demand from the petrochemical sector, however, is expected to stay robust.

Although propane dehydrogenation plants operated at an average 81% of capacity in December, versus 85% in November, according to S&P Global Platts' calculations based on domestic information provider JLC data, this was attributed to insufficient feedstocks and maintenance shutdowns.

"I would say operating rates are high. PDH margins are bearable because the downstream sector is okay," a trader said.

Chinese PDH plants' theoretical processing margin was estimated at Yuan 1,765/mt ($270/mt) in December, up from a revised value of Yuan 1,397/mt in November, according to Platts' calculations. Higher domestic propylene prices widened margins in December, though propane import costs also rose in the month, the data showed.

This would support imports, which are otherwise moderated by softer retail and household demand amid higher import costs due to the uptrend in Saudi Contract Prices in recent months.

"DCE is only meant for the retail sector. You still have cracking and PDH (demand)," the trade source said, referring to additional demand from Wanhua Chemical's steam cracker that uses almost 100% LPG as feedstock which started Nov. 9, following Zhejiang Petrochemical 450,000 mt/year and Zhejiang Huahong's 600,000 mt/year PDH plants.

DCE price fall

The DCE was launched in March 2020 and has five LPG futures contracts: PG2011, PG2012, PG2101, PG 2102, PG2103.

The initiative was aimed at offering investors tools to manage market volatility risks, in a country where the average annual consumption growth in the past decade has been 8%.

The settlement price for the February 2021 contract (PG 2102) was Yuan 3,481/mt on Jan. 26, down Yuan 198/mt from the previous trading session.

For the February 2021 contract, trading volumes were 21,564 lots and open interest were 11,031 lots, down 3,264 lots on the day, DCE data showed.

The most actively traded contract has switched from February 2021 to March 2021 since Jan. 22, with trading volumes of 99,325 lots and open interest at 54,996 lots Jan. 26.

Settlement price for the March 2021 contract (PG 2103) was Yuan 3,394/mt Jan. 26, down Yuan 117/mt from the previous trading day, data on DCE's official website showed.

The main reason for the DCE price fall is that all warehouse receipts are due to be written off by late-March.

The DCE last year planned to increase warehouse receipt write-off periods to once every three months from once every March, to encourage delivery warehouses to issue warehouse receipts, though this remains under discussion.

All warehouse receipt holders are trying to sell LPG into the spot market. But DCE regulations stipulate warehouse receipt issuers could provide propane in the ratio as low as 20% to receipt holders. Butane, or even etherified C4, account for the remainder.

The key point is that during winter, the propane-butane ratio is 2:8. Such a cargo is not easily placed and this triggers the steep discount versus spot market prices including import costs, traders said.

Warehouse receipt holders can either take delivery of the cargo, or resell the warehouse receipt to issuers with discount.

Quality issue

As the quality of DCE futures cargo is normally considered not good, many warehouse receipt holders do not want to take delivery, especially when domestic supply is considered sufficient amid a bearish market outlook, market sources said.

As a result, the spread between prices on the DCE versus the Saudi CP plus premium has slid to as low as minus Yuan 1,000/mt, against more than plus Yuan 4,500/mt around late-April 2020, trade data showed.

The import cost for March-delivery propane is estimated at Yuan 4,523/mt on a CFR South China basis after adding taxes and fees, according to Platts assessment.

But traders said while the spread may not be at a reasonable level, it's not appropriate to compare DCE LPG contract prices with Saudi CP as cargo specifications of these two contracts differ.

CP cargo specifications comprise either propane or butane, while the DCE contract has a wide range that could be propane/butane mix, domestic refinery-grade LPG, or even blended cargo with etherified C4.

The discount may be considered deep if the DCE LPG contract price compares with imported propane, but it is not that steep against refinery-grade LPG price, traders said.

Traders said domestic refinery-grade LPG was traded at around Yuan 3,700-3,800/mt in East China and Shandong province Jan. 26. This was just Yuan 200-300/mt above the price of PG 2012.