Natural gas market turning in buyers' favor

Following the Fukushima disaster in Japan came the country’s nuclear switch-off in 2011. Away from the unfolding environmental tragedy, one of Asia’s biggest energy consumers had its main utilities providers scrambling for natural gas as a medium term power generation alternative. That same year, the International Energy Agency had queried if we were entering a ‘Golden Age’ of gas. Much to the chagrin of renewable energy enthusiasts, natural gas usage kicked into high gear at the expense of both nuclear and coal fired power generation.

The panic buying that followed in Japan saw many energy providers evoke emergency clauses to ensure the lights were kept on at a premium. In fact, buying reached such a level that some Japanese players overcommited on procurement. Most long term contracts around the time were linked to the JCC Index, or Japan Customs-cleared Crude, nick-named by regional traders as the ‘Japanese Crude cocktail’. It served to make gas prices in Japan higher, and by extension South Korea and Taiwan suffered from the premium too.

A liquefied natural gas tanker near Sakhalin Island, Russia. (Photo: AFP / Natalia Kolesnikova)

While it was painful at the time, overcommitment on gas procurement means regional utilities find themselves in a strong position to demand price negotiations on contracts that are not heavily predicated on the JCC and actually put out to competitive tender as gas prices fall. From Asian contract prices in the region of $12 to $14/MMBtu back then, the most recent spot market prices were lurking around $7.95/MMBtu, having plummeted to as low as $6.65/MMBtu in May; the lowest level in almost five years according to Platts.

The early August lurch towards $8/MMBtu in Asia was only caused by Royal Dutch Shell declaring force majeure on gas supplies to Nigeria’s liquefied natural gas (LNG) export terminal on Bonny Island in Rivers State due to a pipeline leak. Prior to that, gas prices were falling and reversion to a lower Asian norm is all but inevitable.

That’s because not only is LNG demand weakening in Japan, South Korea and India, major producers such as US and Australia are set to add 60 million tonnes of natural gas per year, with Russia and Qatar plugging away as they have done for decades. End result is what can only be described as a buyers’ market. Now, let me attach an important caveat – I am not suggesting that regional pricing disparities are going to disappear. However, importers, especially in Asia, would get better terms and prices.

Spooked by sanctions, Russia also turned eastwards to China last year. Financial details of the supply agreement between Moscow and Beijing were not revealed, but most in the industry believe China would have negotiated a substantial discount from the Russians. Going the other way, Europeans, especially Baltic importers spooked by Russia, started exploring tie-ups with the US and Qatar.

In Europe, current UK National Balancing Point (NBP) prices are around $6.15/MMBtu. Qatar has always had a business and logistical case to export its gas to Europe with its lower labor and transportation costs. Concurrently, in the US, where Henry Hub prices are averaging $2.85/MMBtu, exporters are gearing up to export to Europe (and Asia) to get more bang for their bucks. The drive is epitomized by Cheniere Energy’s Sabine Pass LNG terminal, which is expected to be online by the end of the year well ahead of schedule, with UK’s Centrica – the owner of British Gas – being among the first European beneficiaries of the American gas bonanza proceeds.

Construction at Cheniere Energy’s Sabine Pass LNG Terminal, Louisiana, USA. (Photo : Cheniere 

Energy via Bloomberg)

According to analysts at Bank of America Merrill Lynch (BoAML) Sabine Pass is “well positioned cost-wise” relative to rival liquefaction projects, both within the US and further afield in Australia. “Most of the Sabine Pass sales arrangements, especially to Asian customers, are take-or-pay contracts,” they noted. Many customers have inked agreements that include fixed tolling fees atop 115% of the Henry Hub price and transportation costs. The tolling fee also varies; for instance Centrica agreed to $3.00/MMBtu in 2012. However, a year before that BG Group inked a $2.25/MMBtu agreement.

There is one caveat in all of this, as BoAML analysts point out – the ongoing oil price slump has “considerably reduced” the advantage of Henry Hub-based pricing for US LNG exports to Asia, even if the Australians and Qataris are not exactly smiling either in an era of lower prices. According to BoAML, in relation to exports to Europe, with current NBP prices around $6.15/MMBtu, assuming a tolling fee at $2.80/MMBtu and including LNG transportation costs from the US Gulf Coast to Europe of $1.00/MMBtu, the Henry Hub would have to trade below $2.00/MMBtu to be attractive for new European long term contract buyers. In case of Asian markets, assuming transport costs of $2.60/MMBtu, Henry Hub would have to trade below $2.20/MMBtu.

“Put it differently, at current calendar-2016 Henry Hub prices of $3.00/MMBtu, NBP and Asian spot prices will have to trade above $7.25/MMBtu and $8.85/MMBtu, respectively, to attract new long-term contract buyers,” BofAML analysts added. Even the poster US project – Sabine Pass – will not get more long term contracts without a drop in the tolling fee, some industry observers say. In Europe’s case, the Qataris can ship cheaper, while in Asia’s case the Australians could do likewise, and everyone in theory and practice could ship to anyone anywhere (at a variable price).

The mega importer – China – is not buying quite as much as it used to with a Russian tie-up to boot. Meanwhile, US domestic buyers will continue to receive gas at a fraction of what the wider world (still) pays for it, thereby boosting industry and commerce stateside. Laurent Ruseckas, senior adviser on global gas at IHS, said, “Finally even Asian importers can say what’s afoot is nothing short of a buyers’ market. For the next few years you’ll find gas from Australian and US projects increasingly heading to the Far East.”

But Qatari and US gas exports are highly unlikely to supplant Russian exports to Europe and a European shale bonanza is not happening anytime soon. Though, one thing is certain – an increase in competition, or even the perception of an increase in competition from US and Qatar for a slice of the European market would push, and already is pushing, Russia to seal gas supplying contracts on improved buyers’ terms as countries seek security of supply. In whichever direction you look, global sellers might be sweating but the buyers are not.

http://www.forbes.com/sites/gauravsharma/2015/08/27/natural-gas-market-turning-in-buyers-favour/3/