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In search of LNG demand and how to pay for it

Demand is striving to catch up with supply but the short-term future looks challenging

It is hard to remember an LNG outlook for a year with this much downside price risk.

Echoes of the year to come reverberate back to early 2011, when a two-year supply surge tied to major Qatari LNG startups was about to crush the newly minted Platts JKM spot price in Asia. Then the Fukushima nuclear disaster happened and—with the Japan suddenly nuclear-free and hungry for as much gas as it could physically import—what was looking like the beginning of a sustained supply surplus was wiped out overnight.

Now, unprecedented four-year growth in new LNG supply will finally be coming to an end by the middle of 2020, but, before it does, it risks pushing down spot prices to some historically low levels for an extended period of time. Strong hints of this weakness were already on display in 2019, but the full effect of the supply surge was muted by ample and accessible storage capacity in Europe to absorb the extra gas.

No room at the storage inn

No such safety valve will be available in 2020, and—if the prospects for demand growth in Asia continue to deteriorate alongside weaker macroeconomic signals—we are looking at a weaker LNG price not just next year but in 2021 and 2022 as well. Spot price spikes are certainly possible during such a long stretch of time,
but weak fundamentals will limit the persistence of such spikes.

The LNG market is still small enough that it takes considerable time for LNG demand growth to catch up with new LNG supply. Unlike oil, LNG needs to be handled in a precise way, which limits the number of outlets that can import it.

Weak fundamentals will limit the persistence of spot price spikes

And the issues do not stop with import capacity. Average import utilisation at terminals is still below 50pc on an annualised basis. The issue is what to do with the gas once it leaves the LNG import terminal. From internecine squabbling over distribution tariffs among state-owned Chinese firms to chronic delays in India’s midstream buildout, demand growth for LNG in pipeline markets faces many downstream problems, even before we address the issue of price.

The ‘supply first, demand second’ dynamic will actually worsen before it improves because 2019 was not just a weak year for prices, but also the year that traditional decision-making on capital deployment in new supply completely broke the mould. Over 80mn t/yr of new capacity reached FID in 2019 alone—and the much-heralded Qatari expansion is not yet even included in this total. Prior to this year, no volume even half this large ever passed the FID stage in a single year.

Demand challenge

Creating demand for all this new LNG supply will require a broader commitment to two primary components: downstream investment that is equal to or greater than the cheque being written for new liquefaction; and major price reform to rid potential growth markets of subsidies that distort the end-user sector both for gas and competing fuels.

Large swathes of the new FIDs signed in 2019 do not come attached to long-term contracts with customers, which suggests that someone along the value chain will need to invest more in import terminals and distribution systems in order to guarantee outlets for the supply. This burden will fall increasingly on suppliers, given upstream pressure to keep the gas flowing in association with crude or NGLs. Even contracts tied to downstream buyer capacity need time to grow. The projected 31bn m³ growth rate in 2020 LNG supply will be the slowest in the past five years, but will still be large enough to stretch the market’s ability to consume it. LNG demand growth, of which 26bn m³ will be located in Asia, will not occur at a sufficiently fast pace in 2020 to absorb all of this incremental supply unless it is priced low enough to do so. This mismatch will force down spot prices to clear demand at lower levels in order to push additional LNG into the power generation sector.

An even bigger mismatch comes over the five-year range, as 85pc of supply growth arrives from North America and 106pc of demand growth will occur in Asia through 2024. More supply entering the market at a farther and farther distance from demand growth promises to disrupt trade flows. Portfolio optimisation will be a necessity to protect netbacks at lower absolute prices. 

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Ira Joseph, Head of Gas & Power Analytics, S&P Global Platts

Keep up-to-date with how the predictions in Outlook 2020 are playing out and get a first look at the themes that will shape Outlook 2021, as well as with relevant events such as the Outlook launch party and publishing schedules, by subscribing to Petroleum Economist’s bi-monthly Outlook newsletter.

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