U.S. Natural Gas Liquids Production Continues To Drive Global Supply Growth

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Includes: BOIL, DGAZ, GAZB, KOLD, UGAZ, UNG, UNL
by: CME Group
Summary

Powered by U.S. shale oil, growing export volumes are helping to connect the U.S. natural gas liquids industry to the key global demand centers.

The cheap abundance of U.S. shale and light crude condensates is a major factor behind U.S. supply growth.

Trading activity in CME Group derivatives mimics the trends we are witnessing in the physical markets.

By Gregor Spilker and Paul Wightman

Powered by U.S. shale oil, growing export volumes are helping to connect the U.S. natural gas liquids (NGLs) industry to the key global demand centers. The cheap abundance of U.S. shale and light crude condensates is a major factor behind U.S. supply growth. This article examines some of the recent physical supply growth trends in the U.S. and how increased exports from the U.S. Gulf Coast are displacing other more traditional suppliers to the Asian markets. As global trade flows shift eastwards, we also look at the impact on futures trading volumes reflecting higher trading volumes in Asian benchmarks as well as growing trading volumes from Asia in the Mont Belvieu futures benchmark.

U.S. supply hits a record at the end of 2018

The U.S. has also maintained the top spot as the world's largest supplier of liquefied petroleum gases (LPGs). LPGs, including propane and butane are a key component of the NGL product mix alongside ethane. Data from the U.S. Energy Information Administration (EIA) showed that production of propane and propylene was 2.023 million barrels per day in early March 20191, up by around 170,000 barrels per day over the prior 12 months. Total U.S. production of propane and propylene, a smaller sub-set of the broader NGL data category, was over 2.1 million barrels per day at the end of December 2018, an all-time high. NGLs represent the supply of a much broader spectrum of products such as ethane and butane and some light condensates and for this reason total NGL volumes are much higher.

The growth in U.S. production has seen producers look to expand export capacity, while recent investments over the period 2013-2018 have allowed the U.S. to become a net propane exporter and a leading supplier to the global market.

Chart 1

Around half of U.S. production is exported, with much of it heading to Asia where it competes with Middle East supply. In Asia, the biggest importers are Japan, China, South Korea and Singapore. It is worth noting that Chinese imports could be affected by the U.S. trade war (see later in the article). The rise in U.S. volumes has also helped to displace some of the supply that has traditionally been exported by Middle East suppliers.

According to EIA data2, total exports of propane were 354.7 million barrels or 917.8 thousand barrels per day in 2018, up 6% year on year 2017. Asian imports of propane from the U.S. were about 5.66 million barrels per day, which represented around half of the total volume of U.S. propane exports (see the table below). EIA data shows U.S. exports of NGLs were 584.6 million barrels or 1.6 million barrels per day, up by 14% compared to 2017.

U.S. propane annual exports by regional destination

Thousand barrels per day

U.S. propane annual exports by regional destination

2016

2017

2018

Asia-Pacific

4,291

5,874

5,662

Europe

1,579

1,099

1,601

Africa

66

47

72

The Americas*

3,660

3,908

3,931

Middle East

-

39

69

Total

9,596

10,967

11,335

*The Americas means North America, South America and the Caribbean

Source: EIA

According to the data from the Joint Organisations Data Initiative (JODI), NGL production growth in other countries has failed to keep pace with the gains seen in the U.S. Total U.S. production shows volumes reached 4.36 million barrels per day in 2018 compared to 3.7 million barrels per day in 2017, whereas output from most other countries fell (except more recently in Canada) year on year. Part of the reason for the large gains in the U.S. has been the abundance of cheaper feedstocks such as light crude oil from shale as well as cheap natural gas-enabling producers to process higher volumes of light feedstocks to boost output volumes of NGLs.

Annual production volumes of NGLs3 *

Thousand barrels per day

2014

2015

2016

2017

2018

Algeria

519

476

503

490

474

Angola

16

16

14

34

31

Australia

70

51

55

50

45

Brazil

110

108

116

131

86

Canada

701

749

505

541

566

Chile

2

1

1

3

6

Iraq

40

41

48

64

64

Japan

9

8

7

8

7

Kazakhstan

17

7

351

376

332

Mexico

357

322

303

277

236

Netherlands

9

9

6

6

5

Nigeria

106

96

89

83

78

Norway

305

314

314

342

326

Russian Federation

588

735

791

820

797

Thailand

20

19

19

19

17

Trinidad/Tobago

32

30

25

6

-

Ukraine

20

18

18

18

17

United Arab Emirates

494

586

492

453

-

United Kingdom

78

79

99

110

109

United States of America

3,013

3,342

3,509

3,782

4,360

*data for some countries is not reported to JODI

Source: JODI data

The Middle East remains an important supplier, notably to countries in Asia. The largest Middle Eastern producers, such as Saudi Arabia, Iran and Qatar have a cost advantage compared to suppliers farther afield due to their proximity to Asian markets. However, the Middle East, like the U.S., also benefits from cheaper feedstocks. The EIA4 data also appears to show that production growth in Iraq, Iran, Oman, Qatar and Saudi Arabia has fallen short of the output increases seen in the U.S.

Canada emerges as one of the big global suppliers

Canadian NGL production is forecast to increase sharply in the years ahead, largely due to the availability of cheap feedstocks and their ease of access via the west coast to the significant export markets in Asia. The Canadian Energy Research Institute (CERI) predicts a 12% growth in annual (NGL) output during the 2020s reaching around 1 million barrels per day. In January 2017, Canadian producer AltaGas confirmed its plans to build a $450-500 million export terminal on Canada's west coast. The terminal is expected to handle up to 1.2 million tons per year (20-30 cargoes per year) with much of the volumes scheduled to be sold into Asia5. It was expected to be fully operational by the first quarter of 2019.

Asian demand growth remains centre stage

Demand growth is forecast to keep pace with production growth, with incremental consumption driven both by petrochemical and residential demand in Asia6. Residential demand growth is due to domestic fuel-switching from kerosene to cleaner LPGs. Demand from the petrochemical sector is also forecast to increase as new Propane Dehydrogenation (PDH) plants come online, increasing the transformation of greater volumes of propane into propylene. In China alone, three plants with a processing capacity of more than 450,000 metric tons per year are slated to become operational in 20197.

The fundamental outlook for Asia and other markets remains heavily influenced by geopolitical considerations. At this stage, there are plenty of unknown factors such as the expected export volumes from Iran and the likely fallout due to the trade war between China and the U.S.

When we last reviewed the supply/demand dynamics in propane in early 2018, we commented on the increased U.S exports to China. Since early 2018, the escalating trade war between the U.S. and China has impacted trade flows and has had repercussions across various Asian countries - just like other commodity markets. The chart below from the EIA shows that U.S. exports to China reached historically low levels at the end of 2018. Imports from the U.S. remain close to zero in early 2019 as the Chinese government continues to impose higher tariffs on U.S. LPG as a tit-for-tat response in the ongoing trade war. U.S. cargoes displaced by the trade war were replaced with higher imports from the Middle East. So far, U.S. exporters were able to compensate for the loss of Chinese demand by higher exports to other Asian destinations such as Japan and South Korea (where the trade war has no direct impact). Overall, global flows are relatively unchanged as the Middle East ships more to China, replacing U.S. volumes, and the U.S. ships more to Japan, replacing Middle East material.

Chart 2

Source: EIA

India's LPG demand is mostly driven by government subsidies for residential customers that has seen strong growth over the past five years. The most recent subsidy programme saw such large uptake that the country surpassed Japan to become Asia's second-largest importer behind China. Middle East producers supply the near totality of Indian LPG imports,5 and benefit from favourable transport economics due to their proximity to the largest import destinations.6 Risks around the potential for international sanctions could affect Iranian supplies. Following the collapse of the Iran nuclear deal and the re-imposition of U.S. sanctions, the Indian government stated that it would follow U.N. imposed sanctions, but not unilateral sanctions imposed by a single country.

From January 2020, demand may increase further through growth from the maritime sector due to the new International Maritime Organisation (IMO) marine fuel regulations taking effect. In some countries such as Japan, public and private agencies are assessing the viability of LPG bunkering for the country's shipping fleet. However, significant infrastructure changes to allow shipping to bunker in large volumes with LPG may be required before a rise in demand from this sector would have a positive impact on the overall use of LPG in shipping.

Mont Belvieu pricing competitiveness increases

U.S. Mont Belvieu pricing continues to attract Asian importers. Historically low U.S. propane prices have continued to encourage Asian importers to switch from Middle Eastern to U.S. supply. Using the final settlement price of the front-month propane futures contracts traded on the CME for the Far East Index, the Middle East, Northwest Europe and the U.S.), the most competitive price remains the U.S. (Mont Belvieu) futures. Over the past 12 months to January 2019, the price of Mont Belvieu propane was trading nearly $100 per metric ton (converted from USD and cents per gallon) below that of the Asia Far East Index for propane. U.S. producers would appear to be discounting material to offset the effect of the imports tariffs in China.

Chart 3

The Mont Belvieu futures price converted using a factor of 1 gallon = 521 metric tons

Source: CME Group

Echoing growing production of physical material, volumes in U.S. propane futures have significantly increased. Trading activity in the Mont Belvieu LDH Propane (OPIS) futures surged from 616,592 lots in 2015 to 1,462,148 lots in 2018 (+137%).

Chart 4

Source: CME Group

Reflecting the international relevance of the Mont Belvieu location, we have also witnessed a growing interest from Asia-based customers (increasing annual volumes from 889 lots in 2015 to 51,734 lots in 2018) and European firms (volumes increasing from 15,264 to 340,609 lots). Overall, non-US locations accounted for half of the volume growth in the contract during this period, and now generate one-third of total trading in the contract.

Chart 5

Source: CME Group

As the trade dynamics in the market shift eastwards, volumes in regional propane futures volumes have also risen sharply, reflecting the Asian demand. Higher traded futures volumes in recent years would appear to reflect increased hedging activity directly from the region.

Futures trading volumes in the Far East Index (Argus) Futures have increased significantly between 2015 and 2018. Based on CME data, volumes in the futures contracts were 68,590 lots in 2018 compared to 5,791 lots in 2015 (+1,084%), although from a much lower base compared to Mont Belvieu. Volumes in Saudi CP Propane futures also increased over the same period, rising by 362% with traded volumes of 32,923 lots in 2018 compared to 7,128 lots in 2015. Volume gains in European propane futures volumes have failed to keep pace with those targeted at the Asia market.

Chart 6

Source: CME Group

Conclusion

Trading activity in CME Group derivatives mimics the trends we are witnessing in the physical markets: U.S. propane is becoming more relevant internationally, and Asian demand growth is reflected in higher trading activity in regional benchmarks. U.S. propane is competitively priced in global markets and is likely to remain so given abundant NGL production and investments in infrastructure. Regional supply and demand imbalances as well as geopolitics will continue to influence prices beyond directly affected regions and markets, presenting both challenges and opportunities for risk managers across the globe.

References

  1. eia
  2. U.S. Propane exports by destination - EIA
  3. JODI Oil Database (primary data) NGL production
  4. U.S. EIA production data - Middle East. Link
  5. AltaGas Propane Export terminal
  6. aiglp
    bpnews
  7. spglobal

Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.