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EU: Gas prices set to slump

Reduced demand leads to European price slump

European gas prices could fall by almost a third over the next year, says Wood Mackenzie. The consultancy says "reduced demand expectations" in the region "combined with rising near-term supply" will pull European prices down to North American price levels – possibly to $6/m Btu by 2010, compared with $8.50/m Btu.

This may jeopardise the future of oil-indexation in long-term European gas contracts, as buyers seek to renegotiate long-term supply deals at more favourable prices. "European spot prices will converge with North American pricing levels and de-link from oil-price indexation," says Noel Tomnay, a Wood Mackenzie gas analyst. Europe, he says, "risks being over-supplied and over-contracted with gas as a wave of new liquefied natural gas (LNG) supply, particularly from the Middle East, seeks market in the Atlantic".

According to Ian Ashcroft, another gas analyst at Wood Mackenzie, the de-linkage could occur some time in 2009, possibly continuing until 2012. By 2011, according to Wood Mackenzie, there will be 110bn cubic metres a year (cm/y) of new LNG in the market, boosting supply from around 250bn cm in 2008 to 360bn cm, as Middle East and Pacific LNG supplies grow. However, while the supply side grows, demand for Atlantic LNG in the Pacific is set to fall. In addition, increases in the US' domestic gas supplies from new shale plays will reduce prices and limit the attractiveness of the North American market for LNG suppliers.

As a result, Wood Mackenzie has revised downwards its expectations for demand in Europe – to 0.6 trillion cm in 2011. Around six months ago, it had expected demand to rise to 0.67 trillion cm by 2011, from around 0.55 trillion cm in 2008. In the power market, lower fuel prices will tend to favour gas-fired generation, it says, but adds that, by 2011, weaker coal and carbon prices will "limit the potential upturn in gas demand from the sector". Says Tomnay: "Large gas suppliers face the tough decision of either maintaining volume to potentially maximise short-term revenue or withdrawing volume from the market to protect oil-indexed pricing in the future."

Russia's Gazprom, the biggest gas supplier to Europe, predicted in June that European natural gas supplies would triple in 2009, following rises in oil prices, which the company said could reach $250 a barrel by the end of 2008. The company last month said gas prices would average about $400/'000 cm in the first half of 2009, down from a peak of over $500/'000 cm in the final quarter of 2008, but would then fall to $250-300/'000 cm.

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