Prices high, supplies tight for petrochemicals, synthetic rubber

Russia's attack on Ukraine has sent shock waves through the petrochemicals industry, creating pricing volatility, upending supply and forcing crude oil and derivative prices higher than expected.

And if you thought March was a wild ride with its record-high gas prices and sharp crude oil spikes, buckle up. Because April's roller coaster ride could have even steeper inclines.

"Our guys are calling for April to be the high point of oil pricing," said Bill Hyde, director of olefins and elastomers at IHS Markit.

The reasoning, he said, is simple: The oil still coming into refineries was purchased at lower costs—and before Russia's invasion of Ukraine.

"So much of this oil was already on the water, so the argument is you haven't necessarily seen the full impact of the disruption just yet," Hyde said. "Our base case calls for significantly higher pricing in April from March and then a gradual decrease."

Globally, the response to Russia's unprovoked and unrelenting attacks on Ukraine have been aimed at undercutting the country's economic foundation. And while those collective actions have yet to really hit the energy sector directly, the uncertainties are causing market fluctuations.

Russia is, after all, one of the world's largest energy producers, trailing only the U.S. and Saudi Arabia, according to the U.S. Energy Information Administration.

"Fundamentally, the world needs Russian oil, or at least needs some of it," Hyde said. "We can't afford to have them cut off supply. And, certainly, West Europe needs Russian natural gas."

According to Hyde, about 40 percent of the natural gas used by Western European nations is supplied by Russia.

"They're evaluating what they can do this year to reduce that pull, but it's still winter," Hyde said. "And the last thing they want is to cut anybody off and all of the sudden end up with shortages. That is going to be an ongoing thing."

For the U.S.—the largest oil producer in the world—the situation is different. President Biden banned the imports of Russian energy, including crude oil, March 8, noting at the time that America is fairly self-sufficient when it comes to energy.

But that's not to say that the U.S. doesn't need Russian crude.

America, though the largest oil producer, also is the world's largest consumer and relies heavily on imports to feed that demand. EIA reports that Russia supplied 245 million barrels of oil to the U.S. last year, accounting for about 8 percent of the U.S.' overall oil imports.

That amount is more than the amount of oil the U.S. imports from Saudi Arabia, but less than what's imported from Canada or Mexico.

In 2020, Russia supplied the U.S. with 198 million barrels.

There's no denying that Russia's war on Ukraine has created global disruptions and uncertainties that have led to volatile market costs—both for the price of crude oil and gasoline. In response to those uncertainties, oil prices soared, taking gas prices and petrochemical derivative prices with them.

Prices of West Texas Intermediate and Brent crude oil prices peaked March 7, topping $127 and $130 per barrel, respectively, according to data from MarketWatch.

In the days since, the prices have dropped and plateaued at points. WTI crude oil was pricing at around $100 per barrel at press time, according to MarketWatch. Brent crude oil pricing hovered around $105 per barrel. The prices at press time were much closer to the $92.81 and $95.42 per barrel for WTI and Brent respectively, on Feb. 24, the day Russia invaded Ukraine.

"Certainly, the situation (in Russia and Ukraine) has not gotten better," Hyde said. "So this was not a fundamentally driven pullback. It looked more like the markets overheated a bit, overshot on the high side and pulled back."

To help mitigate possible shortages caused by Russia's war, the International Energy Agency detailed March 1 a coordinated release of crude oil from its 31 member countries' strategic reserves, including the U.S., Germany, Canada, South Korea and Mexico. IEA member states committed to releasing a total of 61.7 million barrels from their strategic reserves to reassure markets reeling from the uncertainty surrounding Russia's war.

"The decision taken to release emergency stocks—for only the fourth time in the IEA's history—has sent a strong message that IEA members are unified in support of Ukraine and will do all they can to provide stability to the market during these difficult days," Fatih Birol, executive director of Paris-based IEA, said in a statement. "Events in Ukraine remain deeply distressing and the impacts on energy markets are becoming more pronounced. We continue to monitor the situation closely. If necessary, we are ready to recommend additional steps to build on this initial release."

AAA said March 7 that while significant, the amount of oil to be released from the IEA's strategic reserves won't go far enough in closing the gap and keep crude oil prices down.

"This amount—half of which is expected to come from the U.S.—is the largest coordinated release since IEA was founded in 1974," AAA said. "Despite this announcement, the impact on pricing has been limited, given that the amount of oil planned for release is small in comparison to the amount that flows daily from Russia to other countries around the globe."

IEA data shows that Russia exports approximately 5 million barrels of crude oil each day, accounting for about 12 percent of its global trade. Additionally, domestic crude stocks decreased by 2.6 million barrels during the week of Feb. 28 to 413.4 million barrels. The current stock level is approximately 15 percent lower than at the end of February 2021, contributing to pressure on domestic crude prices.

As crude oil prices skyrocket, petrochemicals prices have no choice but to join them.

According to IHS Markit estimates, naphtha prices in Northeast Asia were around $700 per metric ton in December. The Houston-based analysis firm forecasts the price per ton of naphtha will hit $1,100 this month and top $1,300 in April.

Butadiene isn't faring any better, according to Hyde, who expects prices to top $1,175 per ton this month before rising to more than $1,300 per ton April. Those are significant increases over the $678 per ton in December.

"When you look at those (butadiene prices) compared to the naphtha price, those are terrible margins," Hyde said. "We think the production cost is about 300 bucks a ton. In our view, butadiene margins are zero at around 90 percent of naphtha +300—all of those in dollars a ton."

But there's more bad news.

The skyrocketing costs across the board are forcing ethylene crackers to make tough decisions regarding feedstock. And that, in some cases, could mean choosing feedstocks that yield less of the derivatives the rubber industry relies on.

"The prices for propane, butadiene and naphtha have all shot up dramatically, to the extent that the ethylene guys that have the ability to crack ethane—which they don't all—then that is what they are doing," Hyde said. "That is bad for a portion of the rubber market—the SBR, the polybutadiene and even the butyl rubber, nitrile rubber—anyone that is not primarily concerned with ethylene and propylene. That is bad for them because there is a strong incentive to go to as light a cracker feed slate as you can. And when you do that you generate less co-products. And so, directionally, that would tighten your markets."

The months ahead look a little grim with soaring prices and tight supply. Still, there looks to be a light at the end of the tunnel—and China is holding the candle.

In recent years, China has seen a number of investments in petrochemical facilities, and a good portion of those investments are set to come online this year. As 2022 continues, China will continue to see a steady uptick in petrochemical capacity, which could help weigh prices down a bit.

"There is still a lot of China petrochemical capacity coming online, and that is one of the main factors that has kept butadiene margins as weak as it has," Hyde said. "We have had one unit after another start up. That will continue in 2022 as well."

Moreover, China is a large consumer of Russian energy—petrochemicals, polyethylene and synthetic rubber. And it's very likely that China won't cut off that supply.

"China hasn't joined in the sanctions and they don't have the same sort of PR factors that western companies have," Hyde said. "They have been importing commodities from Iran all these years when sanctions have been in place, and frankly, they haven't cared about that. I would expect that we would see something similar."

And there's one reason why that matters: global pricing. If Russia continues trade with China—and especially if Russia ends up with a surplus—it could end up selling commodities and co-products at steep discounts.

"In some ways you can make the argument that getting Russian oil into places like China and even India—who also hasn't joined in the sanctions regimes—if it comes out at a strong discount (that's good)," Hyde said, both for industry prices and for the economic hits Russia would take.

"The world needs a certain amount of that Russian oil," he said. "And if it finds its way into the market at a large discount, that is probably the best we can hope for in terms of reducing the amount of revenue that is going into Russia."