Primary Vision Insights – September 29th, 2021

By Mark Rossano

[ihc-hide-content ihc_mb_type="show" ihc_mb_who="10,13,14,16,18,19" ihc_mb_template="1"]

The insights today will be much shorter after last week’s deep dive. • U.S. completions is tracking along last week’s view as we sit at 252 on our way to 275 through Oct. Oct will see more crews get back to work as some E&Ps expand activity and others resume completions after pausing in Sept. Rigs will continue to outpace spread additions as companies gear up for 2022 growth and look to replenish some DUCs that have been completed. We will keep seeing completions crew additions, but the pace will just be slower vs rigs. The Permian will remain the bright spot, but private E&Ps are starting to get more active in other regions such as the Anadarko and Haynesville as pricing supports the ramp.

• The market continues to discount the spread of Evergrande risk even as they miss an interest payment yesterday, stopped paying suppliers, and paused employee salaries in some areas of the company. As we said last week, we don’t believe this is the “Lehman Event” but is this the Countrywide or Bear Sterns event- and to that question I say yes. This is a much broader issue in a sector that has been a huge part of the Chinese growth model. Yes, China has seen double digit growth, but it was on the back of explosive debt levels that has outmatched the growth profile.

• We remain concerned regarding “East of Suez” crude demand driven by a broad slowdown in economic growth. This has resulted in a reduction of crude flows into parts of Southeast Asia and India, but so far, China has kept purchases steady along seasonal lines. Exports of refined products have been gradually increasing from India and China, which has pushed more product into the Atlantic Basin and PADD5. This is accelerating again in Sept, which will be important to watch for in U.S. imports as well as storage in Singapore/ Fujairah.

• The shift in U.S. storage between gasoline and distillate also supports a heavier cut of crude vs light sweet. So between storage, demand shifts between gasoline and diesel, and crude grade pricing- imports will remain strong into the U.S. market. Natural gas liquids demand is robust in the U.S. and globally as plastic consumption rises and propane usage at the residential level increase. Ethane demand will also remain robust, which will start to compete more with natural gas consumption. As ethane recovery increases the heat value of natural gas (methane) declines, which can help support the price of ethane. As petchem demand rises, midstream companies will look to recover more ethane, but there must be a balance to maintain a certain heat value given the demand for residential use. Pipelines and facilities have a minimum and maximum heat value allowed, but as the bottom or top of that range approach it has implications on the underlying price of ethane. LNG demand will also remain strong as global flows stay strong heading into winter even as prices remain at or near record levels.

• We have been discussing the power shortfalls in China for some time now, but they are making headlines again as shortfalls are expanding into key manufacturing/industrial regions. Some of the declines are being “mandated” under green policies being implemented broadly as the CCP capped the amount of electricity some industries and provinces can use for the year. For some areas, they have consumed their yearly quota or are approaching it in Sept/Oct causing big reductions into year end. This is just another attempt to provide “Excuses” for poor GDP performance and to deflect away from the CCP. I know crude has rallied hard off the lows, but it is worth considering “just how strong is Asian demand?”

• Crude demand in the U.S. has leveled off when we look at gasoline and jet fuel- while distillate will be a strong point for the U.S. The supply chain shortfalls are worsening (again), which will keep trucking very active. We are also heading into an uncertain winter with tight storage in propane, natural gas, and distillate, which will be supportive of pricing but hurt an already wounded consumer.

• The supply chain issues will keep expanding as we come into the seasonal peak period as companies prepare for the Holiday season. While companies tried to plan for the supply chain bottlenecks, it has only deteriorated further across all facets ranging from the availability of raw materials to the shortage of containers. Price increases have started to accelerate (again) to cover the rise in rates, labor, fuel, and other key cost centers. For example, FedEx announced broad increases in shipping rates across their two biggest business and they won’t be the last to do it. The logistics side of the business is going to remain stressed well into next year (at a minimum).

• We expect to see more gas to fuel oil switching in the Emerging Markets- especially Central and Southeast Asia that have more capacity than others. In Europe, the ability to switch is very limited given their infrastructure making it way more likely to see additional coal coming back vs fuel oil. We will keep clients updated on the progress of switching as we monitor Singapore and Fujairah storage. China has accelerated flows in Sept as more COVID restrictions have been issued and storage filled up following a slower than normal August. State owned and teapot refiners have also slowly reduced runs, which we believe will persist through at least Oct. It is important to remember- this is when assets in China are ramping and not declining. India is currently running at about 80%-85% as their economy struggles to find its footing with a much broader slow down impacting the underlying global economy.

• While I may be concerned on crude demand, we don’t have the same issues on the NGL and natural gas front. Crude flows will ramp up into the U.S. as the cargoes purchased over the last few weeks begin to show up from the Middle East, Russia, and WAF and Line 3 increases the flow of Canadian crude to PADDs 2 and 3. As we see more flows into the U.S., exports will remain capped as WTI prices itself out of the international markets. Many OPEC+ nations have slashed OSPs in order to increase flows that have been stuck on their coast and to clear the backlog of deferrals. This will push more into many of the U.S. key exporting markets reducing total demand for WTI. There are currently 20 VLCCs heading to the U.S., which will see additional cargoes added through Oct as pricing supports renewed flows.