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Insight | Time:Nov 29 2016 4:27PM
Depreciating yuan changes PP, PE futures pattern
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The forward contract in PP and LLDPE futures market in Dalian Commodity Exchange has been conventionally below the rate of nearby futures. However, comparing recent trend of PP or LLDPE’s 1701 (Jan contract) and 1705 (May contract), things are quite the opposite to expected.

On Nov 29, Jan and May contract for LLDPE closed at the same rate of 9,540yuan/mt, but the May contract has been tightly above Jan for a few days. Similar structure happens with PP Jan and May contract. The forward contract is enjoying a premium over the recent one.

This change has several reasons.

First, players used to go long on recent contract and do short on forward ones, as new capacities were expected to come on stream at or around a certain future time. The price trend is always forecasted to go lower in a longer run. However, just recently, the PP and PE expansions news become quite perplexing, and some are possibly delayed by months or even a year around. There is no certain bearish news around May 2017.

Second, a new logic is leading PP and LLDPE futures market. It is the stunning fall of the Chinese yuan value against US dollar, and changing attitude of players.

On Nov 25, the Chinese currency, the renminbi or the yuan, appreciated against the U.S. dollar on Monday after sinking to its weakest point since June 2008. The central parity rate of the Chinese yuan strengthened 126 basis points to 6.9042 against the U.S. dollar last Friday.

“Accelerated economic growth in the United States, Donald Trump's victory in the presidential election and stronger expectations of an interest rate hike by the Federal Reserve have already caused the dollar to rise in value against most other major currencies since October. But the dollar's value has risen only modestly against the renminbi.” The dollar has surged by 5% since Nov 7, and the Chinese yuan fell less than 2.5%, while euro and Japanese yen fell by more than 5-10% during the same period. Actually, Korean Won, Thai baht, pond sterling, and euro all weakened against the USD by different degrees. The trend goes on, and people expect the yuan to go lower.

For LLDPE and PP market, the largest concern among players is rising import cost. When yuan depreciated from 6.95 to 6.6, the import cost almost grows by 5%, costing 500yuan more per ton. Players certainly believe that they need to pay more in the futures as the yuan keeps going down. And another reason is that more speculators would like to put money into futures market as inflation possibilities expand.
Third, it is also because of the relatively balanced spot market. Recent LLDPE and PP spot market are considered rather balanced, which can be seen in the steadily contract plastic inventory in petrochemical plants. Production and sales are in healthy mode, no tight no surplus. So it is hard to push up spot prices greatly. If Jan contract increases too much above spot levels, it would be unfavorable for spot selling, as more sellers would rather sell cargoes into futures warehouse, and that would lead to large amount of stocks in Jan. It is easier to lift prices of May contract, as there is time and there is no certain expansion plans.

All in all, as the logic in LLDPE and PP futures market changes, players are going short on Jan contract by betting long on forward May contract. But whether this structure would continue still requires further observation.
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