LAUNCESTON — What’s well known is that a wave of new liquefied natural gas (LNG) is about swamp already well-supplied markets, what’s less known is how exactly these new cargoes will be absorbed.
The consensus assumption has always been that China would soak up vast quantities of the super-chilled fuel, driven by rising energy demand and the need to switch away from more polluting coal.
But this view has been challenged by China’s slowing growth profile, and by evidence that natural gas is failing to make the anticipated inroads into China’s energy markets, mainly as it remains a higher cost option for industry, consumers and power generators.
China’s LNG imports dropped 3.8 percent to 14.13 million tonnes in the first nine months of the year compared to the same period last year, although pipeline imports of natural gas gained 8 percent to 18.13 million tonnes.
There is the possibility that as the global LNG supply expands by 170 million tonnes from around 300 million currently over the next few years that China will switch from pipeline supplies, especially if LNG prices fall as much as many analysts expect.
But even assuming a fairly dramatic increase in LNG purchases by China, there is still likely to be a supply glut by 2020, which will need to find a home or be idled, which is less likely given the need to keep production going to repay the enormous capital invested to build LNG projects.
How will the market absorb some 66 million tonnes of new LNG from Australia and 61 million tonnes from the United States by 2020.
When considering spot cargoes, as opposed to contracted, long-term supplies, Trevor Sikorski, the head of natural gas and coal research at consultants Energy Aspects, has a compelling view.
Australia will effectively own spot LNG supplies to Asia, given their cost advantage and closer proximity to the region, Sikorski said at the Coaltrans conference in Barcelona earlier this month.
This will force Qatar, currently the world’s largest LNG producer, to send its spot cargoes to Europe, he said. It also means that the new U.S. producers are unlikely to be able to sell spot LNG to Asia.
In effect, Europe becomes the clearing house for excess LNG, as Sikorski argues it has the re-gasification capacity as well as the ability to undertake fuel switching from coal to gas.
HENRY HUB GOES GLOBAL
This version of events has at its root the view that U.S. Henry Hub prices will become the de facto world natural gas benchmark, as U.S. producers will effectively be the swing providers of global gas.
This means that European gas prices will become Henry Hub, the cost of liquefaction and another 50 cents per million British thermal units (mmBtu), reflecting the cost of shipping LNG across the Atlantic, while Asian LNG prices will become the U.S. benchmark plus liquefaction plus about $2 per mmBtu.
Under this scenario, Sikorski believes that the market will be able to absorb all the coming LNG, simply by sending it where it is most able to compete with coal.
With Henry Hub futures having traded below $2 per mmBtu for the first time in three years this week, this suggests that spot Asian LNG prices will remain capped around current levels of $7.10 per mmBtu.
This is based on a liquefaction cost in the United States of at least $3 per mmBtu, Henry Hub of $2 and shipping of $2, giving a total of $7 for U.S. LNG to be competitive in Asia.
Of course, there are several factors still to be taken in account, such as what will pipeline suppliers do in response the this wave of LNG.
Russia is a major shipper of natural gas to both Europe currently, and China in the next few years, and much will depend on whether it curtails production in order to boost prices, or mirrors the more recent policy of Saudi Arabia in oil and maximizes output in order to maintain market share, with scant regard to prices.
While virtually everybody can agree that lower LNG prices are coming, and that there will be convergence between the world’s three major regions, it’s also likely that it will be a volatile process.
In order for Australia to dominate spot supplies into Asia, its producers will have to aggressively price out Qatari and U.S. cargoes.
In turn, the new U.S. projects are likely to try supply cargoes into Asia, as well as Europe, meaning that even small movements in Henry Hub prices may end up opening arbitrage windows, perhaps for very brief periods.
LNG trading is likely to become more dynamic, stimulating the need for better hedging products, such as the new Singapore Exchange LNG price index, which will form the basis for swaps and futures contracts.
There is also the possibility that LNG buyers, such as top-ranked Japan, become more aggressive in negotiating out of long-term contracts linked to the oil price, with the possibility of low spot LNG prices making it viable to break deals, even with the resultant penalties.
One thing is for certain, the world of stable, long-term and lucrative LNG contracts that lured many of the top oil majors into expensive projects no longer exists.
(Editing by Richard Pullin)
This article was from Reuters and was legally licensed through the NewsCred publisher network.