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China’s Russian deal ‘a wake-up call’ for LNG sector

The deal for a second gas pipeline supply could have consequences for the Asian LNG sector

A second gas pipeline supply deal between China and Russia would put a huge dent in the potential Asian market for liquefied natural gas (LNG) with some analysts warning there could be dire repercussions for project developers across the globe.

The $400bn Power of Siberia pipeline gas supply deal, signed in May 2014, envisages sending 38bn cubic metres (cm) per year (or 27m tonnes per year in LNG volume) from eastern Russia to China. A memorandum of understanding was signed for the second gas pipeline – the  West Siberia or Altai link – was signed in November 2014,  and its conversion into a binding agreement is being pursued.

“China’s national oil companies should reconsider LNG deals even though they got burned at the time of high oil prices. Times have changed”

The effects of two major gas pipelines with an annual combined capacity of 68 billion cm on regional and global LNG trading will be massive, Keun-Wook Paik, an expert on northeast Asia energy issues at the Oxford Institute for Energy Studies, said in his latest report. For perspective, the two pipelines will have an annual capacity almost double Australia’s LNG production in 2014. 

Paik warns: “LNG producers’ false expectation of boundless appetite from Asia, particularly from China, will lead to the suspension of many expensive LNG projects.”

Indeed, the proposed pipelines would together wipe off 48m tonnes per year (t/y) of demand from the LNG market and should serve as a wake-up call to potential LNG suppliers, such as Australia, the US and Canada, as well as East Africa, he adds.

Paik paints China, which has the largest gas market in the region, as the battleground between the “Pivot to Asia” policies of, on the one hand, Russia, and on the other, the US and Canada, resulting in an invisible but fierce competition which looks set to intensify over the coming years. 

This explains why Moscow aims to strike the Altai gas supply deal without further delay, he says. 

The rationale for the first Power of Siberia deal was clear – China had to find a way to cut the excessive Asian premium for LNG supply. Under the deal, when oil prices stood at more than $100 per barrel, the price formula resulted in a gas price of close to $11/m British thermal units (Btu) for gas delivered to the Chinese border, much less than spot Asian LNG prices at the time.

Still, there is a very strong signal that the Altai gas deal will become a reality too, Paik believes. These signals gained strength in March, when China’s foreign minister Wang Yi told reporters that China would sign a cooperation agreement for the second pipeline.

But others are more sceptical about the prospects for piped Russian gas.

Fereidun Fesharaki, chairman of consultancy Facts Global Energy, said he believes Russia’s aim of completing the Power of Siberia link by 2018 is overly ambitious.  Fesharaki added that as oil prices have dropped substantially, the would-be border price  for the gas could be as low as $8/m Btu, which will have an impact on the link’s economics.

Fesharaki is also skeptical about the Altai link, saying: “In the emerging world of plentiful gas supplies, there is no need for China in general, and PetroChina in particular, to commit to mega-pipeline projects like this one.”

He added: “China’s national oil companies should reconsider LNG deals even though they got burned at the time of high oil prices. Times have changed.” 

China imported just under 20m t/y in 2014, much less than its import capacity of over 30m t/y as high prices crimped demand.

Spot LNG prices have fallen to around $7/m Btu in recent months. Energy research company Wood Mackenzie does not forecast any sustained price recovery above $10/m Btu, given that more than 100m t/y of new LNG production expected to be operational by 2020. Global production in 2014 stood at around 245m tonnes.

Maiden LNG exports will emerge from the US next year, but largely affect China by displacement of demand for other suppliers rather than direct sales. US cargoes destined for Asia will land primarily in Japan and South Korea, the world’s biggest buyers of LNG.

China is building LNG terminals at a rapid clip with import capacity expected to jump three-fold to 80m t/y by 2018.

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