Interconnected markets boost LNG trading
German gas and power firm Uniper sees a compelling need to understand LNG, given the impact on its core business
European gas and power prices are firmly imbedded in a global and cross-commodity matrix that requires an ever-broadening understanding, not least of LNG dynamics, says Keith Martin, chief commercial officer at Uniper.
Fortunately, as he told Petroleum Economist at September’s Gastech conference in Houston, he sees greater liquidity, more participants and, crucially, increasing expertise in the traded LNG market. And a greater appetite on all sides to find innovative solutions and to optimise flexibility leads him to predict that the current LNG trading boom is here to stay.
For Uniper, with European gas supply and gas-fired power as a core business, what are the advantages of being in the LNG traded market as well as in European pipeline hubs?
Martin: We see the markets as now being interlinked. If a very substantial volume of LNG makes its way to Europe, it has the impact that we have seen recently, where the prices have gone down to ten-year lows. Conversely, if the LNG had not arrived and had gone to Asia instead, it also would have had an impact. So, our European markets are globally interconnected via LNG, and the price impact is clear.
Where previously you would have said the supply situation in Europe was caused by its warm winter, you would now have to say the warm Asian winter has also led to a lot of cargoes that were expected to go there actually landing in Europe. So, from our point of view, being in the LNG market—to understand price formation, and to take advantage of all the opportunities that the global gas market’s rapid growth brings—is natural for us, given the strength of our gas position.
"Now you find that people are far more comfortable in being flexible on how they sell"
And you have seen increased liquidity, and greater responsiveness in the LNG spot market over the past, say, 18 months?
Martin: Most definitely. With new projects coming on the market, a lot of them have not got destination restrictions imposed on them. We are also finding that the providers of new supply liquidity are more flexible on term, duration and the indexation that they are willing to accept. Even just at Gastech, we are seeing US supply contracts being struck with JKM indexation. I think, in years gone by, that would not have been believed possible. So, it really is changing. People are getting more comfortable—the more players there are, the more liquidity there is—taking on different types of risk and getting more sophisticated in how they manage that risk. If you look around the market, the number of participants has grown, but also the depth and the quality of the teams has definitely enhanced, I would say almost without exception. This is truly a growth business, and I think that liquidity comes with that growth.
Obviously, that liquidity has coincided with a glut of supply. Is there any risk that if and when the market tightens up again, liquidity will take a hit, or is it here to stay?
Martin: I believe that the markets are so interconnected, they will follow a price signal. The current lower prices are definitely attracting a slew of investments around the world, particularly in terms of combined-cycle gas turbine (CCGT) development. And that development is there for the long-term. Once you have got a CCGT built, you are going to want to get it paid back over a number of years. Given that a lot of that CCGT development is competing against high-price oil-fired generation, it makes eminent sense to invest in it.
The short-term supply glut is in part driven by weather, where we have had a particularly warm winter last year in Europe, but also that unseasonably warm weather in Asia. So colder weather can also tighten up the market in short-term. But, longer-term, we have already seen that there are a number of projects ready to go for a second supply wave. And as and when people get comfortable that it will fit into their portfolio, you will see more of these second wave projects get the green light. I think it is a case of when, not if, for many of them.
You’ve touched on it slightly, but, looking at the short-term outlook, how long might the current LNG supply glut endure?
Martin: Obviously, in the period that we are coming up to, it is all about the winter. How cold is the winter going to be? Is the winter going to be above normal, at normal, below normal? And, crucially, to return to the point, when I say the winter, I mean it in two ways—the European winter, but also, just as importantly, the Asian winter. We did see the winter before last, if you remember, the so-called ‘Beast from the East’. And what happened then— it really sticks in my mind—it was so calm up until February when it rolled in. And it completely changed the face of the market.
So, one thing that we have got to prepare for is the unpredictable. We saw it in September with the impact on oil prices from the attacks on Saudi Arabian infrastructure. If somebody flies a drone into a Saudi oil refinery, the oil prices will jump by double-digit percentages. And that will have a knock-on impact on European gas prices, even on European power prices. It is amazing just how interconnected the world is and energy markets are. But fundamentally, in the short-term it is all about that weather prediction.
You are striking deals, such as September’s agreement with Australia’s Woodside, to bring more LNG into your portfolio. What changes have you seen in seller behaviour when approaching mid, and indeed long-term volumes? Are you seeing more innovative approaches around price and volume?
Martin: Most definitely. I think sellers are very much more responsive, in terms of trying to understand what a buyer like ourselves wants to achieve, and how we can work together in more of a partnership model. LNG was before an A to B activity and that was it. And there was not any flexibility, it was typically kept by the seller.
"This is truly a growth business, and I think that liquidity comes with that growth"
Now you find that people are far more comfortable in being flexible on how they sell, what indexation, what duration, etc. It is all around what makes commercial sense on both sides. As a consequence, it has brought a whole class of new players into the market. I think it has also woken people up to how much optionality on which they are sitting, and how they want to participate in capturing that optionality. We have seen lots of growth in terms of how people optimise cargoes, how people sell cargoes—it is a real boom time.
That is good to hear. If we look at Uniper’s European business, I assume that most of your customers are looking for TTF or NBP indexation. What are the challenges for a European buyer of LNG to commit to price references other than European hubs?
Martin: It is about being able to optimise the price ranges that you buy upon and sell upon. Whatever indexation you buy on, you are always looking to optimise it. Ultimately, what we want to do is offer our customers the cheapest possible gas. Ideally, TTF indexation would be fantastic, but we appreciate that, if you are a seller in a particular region, you will have a different reference point on which you want to sell. So, a lot of US supply contracts were, obviously, sold around Henry Hub, people in the Asian market will still look to crude, to Brent in particular, and to the usual price slopes on those types of contract.
From our perspective, what we always like to do is work out what the indexation is, how we can risk manage it and how we can optimise it, that is at the forefront of our mind. Again, we can be fairly flexible on that. We are very happy to buy for our Asian customers on the JKM index and we are very happy to buy for our European customers on TTF index. And we are also very happy to look at other indexes if they make commercial sense, and it is hedgeable for us. What we do not like to do is to take on basis risk.