How Europe's natural gas prices are declining

Since UK gas and electricity bills went up last year and created an affordability crisis the Labour opposition turned into a UK political issue, the news coming out of Flame 2014 would surprise most people: Gas prices are cratering. Throw in the continuing tension over Russia and Ukraine and it becomes even more counter-intuitive. Throw in how US prices have actually risen and it becomes just plain confusing. What gives?

While global gas prices are unlikely to merge around a single figure anytime soon, they are more strongly connected than ever. Trading links between the three main regions of North America, Europe and North East Asia reflect fundamentals of supply and demand of not only the commodity, but of shipping capacity.

At this time of year, it’s all about replacing - or not - gas used over the past winter. The emptier the storage, the higher the prices to replace it for winter 14/15 consumption.

North America is the only market where year on year gas prices are higher, driven by the coldest winter in forty years. Weather led to knock on effects on production, but prices could still only manage a rise of five percent year on year.There were spikes to over $6 in February, and New York/New England prices, driven by lack of pipeline capacity went over $100 at times for within day gas, but overall, the question should be what would have happened in the event of a normal, or warm winter. Last week Henry Hub was $4.5 but surging production and stranded gas with not enough take away capacity put prices as low as $1.99 in the North East Pennsylvania market. Mother Nature intervened to lift US gas prices, but what if she hadn't been around? 

Supply and demand considerations also rule in Europe. The winter was mild all over Europe and the annual one year strip for UK NBP is down 15 percent to 60 pence per therm ($10.12MMBTU). Last week the day ahead was as low as $7.60, a 30 percent drop year on year. Put in the context of continuing Russia tensions, the most important thing about European gas prices is what is not happening, as William Powell of Platts explains here.

But the most interesting developments are happening on sea, not underground. LNG’s main market is North East Asia, and although everyone concentrates on Japan, Korea is more interesting. Asia also had a mild winter and KOGAS made an overestimate of demand: 

Korea Gas Corp., the world's biggest corporate buyer of LNG, is looking to sell 20-40 cargoes this summer after misjudging the scale of demand, partly owing to mild weather and some nuclear reactor restarts.

KOGAS’ intervention increases supply in a time when demand to refill storage is low in Europe.  Even worse for any gas price bulls, a similar volume is coming into the market from an entirely new source:

Yet more LNG is set to come from ExxonMobil's Papua New Guinea gas liquefaction plant, with sources expecting around 20 cargoes to be exported by September in the project's start-up phase.

At the same time, there is an important longer term trend of growing shipping capacity. Firstly, there are more ships and secondly, recent problems at Angola LNG have freed up tankers contracted to move gas that looks not to be there for a while. As an example, that has lowered LNG charter day rates from $150K to $60K, which lowers transport costs and thus lowers prices even more. So the cargoes of LNG that are flowing from Qatar to Europe will continue. Where else can they go? The fundamental physics of natural gas underlie this. Swing capacity is limited and swing is linked to oil production. Oil can't be produced without gas and gas has to go somewhere, anywhere, at almost any price, to keep oil flowing. Gas can't be stored for ever: someone will actually have to use it. There are going to be more than 20 new tankers sailing the oceans this year who can connect markets, and this is a trend that operates independent of weather demand.

What's more, the shift is set to accelerate. In Europe we're going to see an unprecedented reaching of full storage by August. That will mean either continued price collapse, or finally, an increase in gas burn over coal in generation. We're already seeing higher gas in the UK energy mix during May than all year. In short, we need an increase in generation use in Europe, which will be good for the climate, good for consumers and good for the shale industry. European energy prices will continue to be fundamentally higher than US ones, but the gap will narrow.  It won't be narrow enough for EU/UK shale not to remain extremely profitable below $7. It may make US LNG exports more problematic but this is a longer term issue which makes longer term solutions over carbon pricing more compelling.

Add it all together and suddenly it’s a buyer’s market for natural gas.Unless of course you happen to be a domestic UK buyer of gas and electricity in which case the Big Six hope no one notices. Go to any switching site or energy consultant and they still tell the customers what they want to hear, i.e., we're all doomed.

Two people that should notice are David Cameron and Ed Miliband. What little Labour success there has been over the past year surrounded the cost of living narrative for working people, and Labour made a freeze of gas and electricity prices a key part of the program for next year’s election. Despite Labour getting my vote on most else, and being particularly impressed by shadow Energy Minister Tom Greatrex’s strong speech in favour of shale gas at Shale World Birmingham recently, a price freeze in any market doesn’t address the problem. In a collapsing commodity market the problem, and more importantly for Labour and Conservatives alike, the issue itself will simply wither away. I hope they're all paying attention. This gas collapse won't be around forever and could evaporate if a 2015 Polar Vortex hits Europe. However, it would be unwise to bet on a forty year event to raise prices.

Finally a quick note on the EP elections. In the UK, the Green Party ran on a specifically anti-fracking platform. They did put the Lib Dems into fifth place, but the Green share was down by 0.75 percent. Disgruntled LibDems went Labour not Green. Malcontents of all parties went to UKIP, an over enthusiastic, if consistent, supporter of shale. It would appear most UK voters don't really find shale so "controversial" after all. I shared a platform with Anneliese Dodds elected Labour MEP from South East England at a Labour event earlier this year and her success further underlines that voters, even in an alleged Tory heartland, have far more than shale on their minds. More importantly, Labour beat the Greens into second place in Brighton and Eastbourne. Meanwhile, what result from Balcombe? None available so far, but theMid Sussex results that include the village, underlines how even there, UKIP and Conservatives support of fracking wasn't an issue either.