Its not all fun being part of the US millennial generation (those born between 1980 – 2000). They number 80 million, about the same as the BabyBoomer generation. But as the New York Times notes:
- “The millennial generation has less wealth and more debt than other generations did at the same age, thanks to student loans and the lingering effects of the deep recession
- “Though millennials are hailed as the first generation of “digital natives,” the over-40 (and 50 and 60) sets have become pretty adept when it comes to smartphones and other devices”
In addition, the millennials are much more racially mixed than the older generation as Census Bureau data shows for the 15-34 age group.
- Only 58% identified themselves as White, compared to 78% of the Boomers generation at this age
- 21% were Hispanics (versus 7% of the Boomer generation); 6% were Asian (2% of the Boomer generation); whilst the proportion of Blacks was stable at 14% in both generations
- Immigration is a key reason for the increase in Hispanic numbers: 15% of millennials aged 20 – 34 were born in a foreign country, double the figure for the Boomer generation
This increase in racial diversity matters in terms of employment, and hence spending power. Bureau of Labor Statistics data shows that in Q1, only 3% of Asians and 5% of Whites were unemployed in the 25 – 34 age group, compared to 7% of Hispanics and 12% of Blacks. Equally important is that median earnings for Blacks are around 20% less than for Whites/Asians, and 25% less for Hispanics.
Importantly also, in terms of potential housing demand, nearly a third of all 18-34 year olds were still living with parents in 2014, up from just over a quarter in mid-2000.
DEMOGRAPHIC CHANGE HAS ECONOMIC IMPACT
These changes matter in terms of demand for basic chemical products, as the chart above of chlorine and caustic soda production from the American Chemistry Council (ACC) confirms.
The problem is that the higher-spending Boomer generation has been followed by lower-spending Millennials.
Volumes for both chlorine and caustic soda have thus drifted steadily lower over the past 20 years. Current volumes are actually lower than the lowest levels seen before 2008. And chlorine demand into PVC has been badly hit by the collapse of housing starts which are now less than half the peak levels seen in the early 2000s.
This has not been good news for producers, who had assumed there would be a major recovery in the US economy. They have also been disappointed by demand in export markets, as latest data from Global Trade Information Services shows:
- Average US export prices fell 22% in January – April versus 2013 to $168/tonne, whilst volume was unchanged at 1.6m tonnes. Overall volume was only maintained via a 40% cut in prices to just $126/t to Australia
- PVC markets (the main vehicle for chlorine exports) were even more difficult, with volume down 20% over the period and average selling prices down 15%
The second chart, based on Chlorine Institute data confirms the result of these trends in terms of capacity utilisation. Rates so far in 2015 have been in steady decline with 2015 averaging just 81% versus 83% in 2014 and 86% in 2013.
Similarly, the ACC report total chlorine volume is down 3% versus 2014, and caustic volume is down 4.8%.
Thus developments in the chloralkali industry highlight the critical importance of focusing on demand-related issues, rather than assuming that lower feedstock costs will automatically lead to success.
Companies and investors often say “we don’t need to think about demographics – its too far in the future to matter”. This might have been true 20 years ago, but not today. As European chlorine industry demand confirms, the truth is that “history catches up with us”.
The reason is simple. Europe stopped having enough babies to replace its population with the end of the BabyBoom in 1970. Today, women have just 1.7 babies each, compared to the 2.7 babies/woman seen in the early 1960′s. Replacement rate would be 2.1 babies. And this, of course, matters enormously for demand:
- Consumption is around 2/3rds of GDP in developed economies
- And it is those in the ‘wealth creator’ 25 – 54 age group who drive spending and economic growth
Of course, the overall European population is still expanding today. But this is mainly because of the dramatic increase in life expectancy. This means someone aged 65 can now expect to live for 20 years in retirement. And older people contribute much less to GDP growth
- They already own most of what they need
- And their incomes decline as they enter retirement.
The chart above of chlorine production and operating rates highlights the impact of these two developments for demand. The reason is that chlorine, and its co-product caustic soda, are essential products in modern society. Based on salt, they are used in applications ranging from construction through to water treatment, detergents and pharmaceuticals. Based on Eurochlor data it shows:
- Annual chlorine production on the left, and operating rates (%) on the right since 2007, with Q1 2015 annualised
- In 2007, production was 10.7MT (black line) and operating rates averaged 84.5% (red)
- They have never been close to this level since, with 2010 the peak year at 10MT and 79% operating rates
The key is the decline in construction and therefore PVC demand.
As the chart on the left shows, based on Eurostat data, this peaked in 2007 and has never recovered. Part of the reason is the end of the speculative rush to build second homes in countries such as Spain. Vast numbers of these apartments have never been occupied, and the local population in most holiday resorts is not big enough to fill the gap.
The other reason, of course, is the ageing population and lack of babies.
Young adults normally provide major support for construction markets. They have to set up home for the first time, and then they often need to have bigger homes when they start a family. Equally, employers have to build offices and factories where they can work.
But older people already have somewhere to live, and are instead leaving work to retire. They might in the past have thought about buying holiday homes, but today they are increasingly concerned about having sufficient savings for their retirement.
The relative lack of young people since 1970 has enormous consequences for future economic growth. As the head of Copenhagen’s University Hospital’s fertility clinic warned last year:
“We have for many years addressed the very important issues of how to avoid becoming pregnant, how to avoid sexual diseases, how kids have a right to their own bodies, but we totally forgot to tell them we cannot have children forever.”
These demographic changes mean that Europe’s adult population is increasingly being dominated by people in the 55+ generation for the first time in history. Even in 1950, life expectancy at birth was roughly equal to retirement age at 65 years.
The result, as European chlorine demand confirms, is that the European economy has gone ex-growth. And as the European Central Bank is just beginning to realise, you can print money, but you can’t print babies.
The US PVC industry is hitting new problems, to add to the post-2006 collapse of the US housing market.
Yet only 10 years ago, it was riding high. Demand into housing (the main outlet) was at record levels thanks to subprime lending, and PVC production had just hit a record 7.3 million tonnes.
Even after the financial Crisis, global markets picked up the slack left by the US housing downturn. Exports zoomed to over 40% of total output, allowing production to recover to 6.7MT.
But now further change is underway, as the chart above shows of net H1 PVC exports versus H1 2013, based on Global Tade Information Services data:
- Every single export market has seen volumes fall, some by massive amounts
- Total export volume is down by 19%
- Exports to Latin America were down 10% despite the boost from the World Cup and the 2016 Olympics
- Exports to the Middle East were down 14%, as Saudi volumes fell 31%
- Exports to China were down 23% and exports to the Former Soviet Union were down by 2/3rds
Of course, there must have been some volume reduction due to unexpected ethylene shortages. And optimists might hope that the US housing market may see a further boost. But most of the lost volume is secular and not cyclical.
Brazil went into recession in H1, and Argentina is in the middle of a prolonged default debate, which makes its economic position likely to become worse, not better. Even worse is the position with China, which has switched from being a major importer, to a major exporter:
- Its net imports were 432kt as recently as January-July 2012
- But this year, its net exports reached 210kt in the same period
US CAUSTIC SODA EXPORTS DOWN 16%
PVC is, of course, a major application for chlorine. And chlorine’s co-product, caustic soda, has also seen US net exports decline across the board in H1. This confirms the downturn is secular, and not just due to temporary developments.
Total net exports of caustic soda were down 16%, a very similar volume to the PVC decline:
- Exports to Latin America were down 10%, and down 14% to the Middle East
- Exports to China were down 23%, and down 67% to the FSU
- As with PVC, exports to China and the FSU will likely be even lower in H2
Yet whilst this decline is taking place, producers are still lining up to expand. Maybe they know something about future demand that has escaped the blog.
But it can’t help worrying, as it wrote back in March, that they have fallen into a major trap. They hope that the Boomer-led SuperCycle will return, making advantaged supply once more the key focus.
Yet all the evidence suggests we are now moving into a Boomer-led New Normal, where advantaged demand positions will be key to future growth and profit.
Chlorine and caustic soda are the bedrock of modern industry. They are used in everything from laundry products to pharmaceuticals. So changes in their business performance are a most valuable guide to what is happening in the real world in which we all live.
The chart shows the detail of developments in the European industry, starting from 2009 as the Crisis began (based on EuroChlor data). It highlights the annual change, to avoid seasonal fluctuations:
- The red line shows the operating rate in %, and the black line shows the level of caustic soda stocks in KT
- Operating rates began 2009 at 60%, but quickly recovered due to stimulus and seasonal factors
- By June 2009, they were at 71.3% and they went on to peak at 83% during 2011
- Since then they have been slowly sliding, with June 2014 seeing a major fall to 73.6%
- Caustic stocks seemed to have stabilised since mid-2010, but they rose sharply during Q4 2013
- They hit 296KT in February as producers hoped demand would rise seasonally
- But this proved wishful thinking, causing the hurried drop in operating rates in June
- June’s 73.6% rate brought stocks down to a more reasonable 249KT
Having run a major chloralkali business in the past, the blog suspects the outlook for H2 is fairly clear. Producers will keep operating rates low in Q3, and will only be tempted to increase them if stocks continue to remain under control.
This may become difficult to manage due to geo-political issues. Russia has been Europe’s second largest PVC customer for many years, and the Ukraine its 3rd largest customer, according to trade data from Global Trade Information Services. And PVC, of course, is one of the main uses for chlorine.
Last year, Russia and the Ukraine took around 24% of Europe’s PVC exports, for a total of 236KT. These volumes have already been hit by Ukraine’s civil war; exports to it were down 29% by April versus 2013. And there is clearly potential for a further volume reduction if today’s economic war escalates between Russia and the EU.
What a difference 2 years can make. That’s the obvious conclusion from comparing US exports of caustic soda today, with those seen in the years to 2012. As the chart, based on Global Trade Information Services data shows:
- Net US exports fell 4% in Q1 (red column) versus 2012 (blue), and were 19% below 2013 levels
- Detailed analysis shows actual exports fell 8% versus 2013, whilst imports jumped 31%
- China’s slowdown meant US exports to Brazil and Australia for aluminium production fell 3% and 47% respectively
- Similarly, the slowdown meant imports from NEA doubled, as producers there looked for new markets
- And imports began to arrive from the Middle East for the first time, as new capacity came online
This is probably just a warning of the larger downturn that is round the corner, as the blog noted last month. Caustic soda has benefited (unintentionally) from the scandal over the role of metals warehouses. These have successfully ‘locked up’ enough aluminium to build 2 years’ worth of cars, and artificially inflated prices.
European producers have similarly benefited from the artificial boost to aluminium production. But European stocks of caustic soda stocks have been rising ominously, with March data from EuroChlor showing them up 9% versus a year ago at 284kt.
Confirmation of the slowdown comes from China itself. Its caustic exports had plateaued at 2Mt between 2011-2013. But her Q1 exports were down 13% versus 2013 levels. And Q1 also saw a 13% slowdown in her exports of the main chlorine derivative, PVC.
Caustic soda, PVC and chlorine are excellent leading indicators for the global economy. They are well established products, having been made industrially for over a century. And they are used in a very wide variety of applications. Whilst US exports are very competitive, due to its low cost position due to shale gas.
Today’s slowdown in US caustic soda exports is thus an orange warning light that the global economy is probably not as robust as we would all like to believe.
An accident waiting to happen is perhaps the best way to describe aluminium markets – the key swing outlet for caustic soda. Caustic soda is normally a late cycle product, with sales then focused on the mining industry. Industry leader Alcoa’s results confirm the disappointing trend. It lost money in Q1, whilst revenue fell 8% due to a decline in aluminium prices.
Even more worrying, as the chart above shows, based on EuroChlor data, Is that European caustic inventory is already at high levels:
- Inventory jumped 22% in February (red square) versus 2013 (green line)
- This followed an 18% jump in January, and took stocks to 296kt – equal to 2009/10 levels
- The driver was an increase in February operating rates to 81%, after an average 75% in 2012
A further problem is that aluminium stocks in warehouses remain at more than 10 million tonnes, despite a 43% fall in prices from the 2008 peak. As the blog noted in January, this is sufficient to build 2 years’ worth of cars.
Aluminium producers are thus now fighting a war on two fronts:
- Rusal has forced a postponement in the London Metal Exchange’s plan to cut warehouse delivery times
- Rusal and Alcoa have also started to cut production at high cost mines
The warehouse position is the most scandalous, with buyers forced to wait up to 570 days to obtain their own stored material – and to add insult to injury, made to pay large premiums to obtain prompt delivery of replacement supplies.
But whilst Western aluminium producers are finally starting to face up to reality, we can be fairly certain that they will do too little, too late. This is always the problem when markets are unable to operate properly, as wishful thinking rather than reality starts to dominate producer thinking.
They have thus allowed themselves to be lulled into a state of false optimism. They wanted to believe stimulus programmes would restore pre-Crisis growth levels, and they have ignored the fact that the warehouse delays kept unwanted inventory off the market.
But we all know how this story will end. Aluminium demand will continue to suffer under the influence of today’s high prices, whilst in the end the inventory will appear on the market. When this happens, it will be the innocent producers of caustic soda who will suffer just as much as the aluminium market.
Today’s rising inventory are a clear warning that major operating rate reductions are now on the horizon.