Liquefaction ramp-ups and a slowing rate of Chinese demand growth finally deliver the oft-anticipated supply glut
But is this just a temporary blip or finally the arrival of the widely predicted but much delayed “wave” that would send the global LNG markets into oversupply? Analysts are in a broad agreement that it is the latter.
According to Paris-headquartered Kpler, one of the market-leading LNG cargo analysts, Europe will receive 5.8mn t of LNG in January, based on observed arrivals and anticipated ship movements until the end of the month, up by 2.2mn t from the first month of 2018.
The UK is a particular beneficiary, with almost 0.9mn t arriving in January, compared to zero imports in January 2018. Its South Hook terminal, which has changed the specifications for arriving cargoes to allow greater diversity than its previous diet of purely Qatari LNG, has received deliveries from Yamal in Russia and from the US to make a significant contribution to the UK’s overall jump.
A third month of strong deliveries into Europe—Kpler figures for December see just under 5.6mn t arriving into Europe—strengthen sentiment that this is a new normal, rather than a blip. The fact that China, although most agree it overcommitted to fourth-quarter supply, still managed, according to Kpler, to squeeze in 1.2mn t more year-on-year in December and Europe deliveries were still at elevated levels strengthens confidence.
The change is not on the demand side, with Europe getting more because Asia is taking less—Asia as a whole took an additional 1.5mn t year-on-year in both November and December—but on the supply side. Kpler saw 32.2mn t of LNG dispatched globally in December, up by 4.4mn t, or almost 16pc, from the same month in 2017.
As its mega-trains rumbled toward full utilisation, Australia was the biggest contributor to the year-on-year surge, with an additional 1.3mn t. Russia contributed an extra 1mn t from its second and third Yamal trains, while the US boosted exports by over 0.75mn t.
Based on information gleaned from ship charters and from its trading sources, “we do not see any big changes in the current flow of cargoes”, says Kpler analyst Madeleine Overgaard. “Most of the recently-loaded US cargoes are headed towards Europe.”
“The message that LNG was coming to Europe was becoming increasingly difficult to sell—the market had heard it before without it happening,” says Michael Stoppard, chief global gas strategist at consultancy IHS Energy. “But that sentiment is changing after what we saw in November and December. It will be a long road, and not without temporary bumps, but it is difficult not to see big volumes of LNG coming to Europe.”
Stoppard sees 2019 as the third year in a four-year cycle of rising supply, but crucially the first year where exceptionally large year-on-year increases in China’s import capability will fail to absorb a large portion of the new volumes. He estimates 34mn t of new supply, based on ramp-ups of commissioning facilities and new start-ups will need to find a home in 2019, a 9pc jump from 2018. While China’s demand will continue to increase, it cannot continue its growth rate due to logistical constraints.
Consultancy Wood Mackenzie echoes that view, predicting that a “more considered” approach to coal-to-gas switching, better domestic infrastructure availability and general economic slowdown will temper China’s growth rates. It predicts the 40-45pc import increases seen in 2017-18 moderating to 20pc in 2019, while still delivering the single largest demand centre growth globally.
Korea’s higher coal tax
Japan and South Korea, two of east Asia’s other major import markets, are not expected to see significant material change in demand, although Giles Farrer, Wood Mackenzie’s global LNG research director, points that their 2018 import volumes would have been lower but for strong storage restocking. Given a mild fourth quarter, unless Q1 2019 delivers colder-than-normal conditions, this injection demand could be slightly weaker over the next 12 months. On the other hand, the firm also notes that a new South Korean electricity plan this year could impose higher taxes on coal imports and tighten further 2018 restrictions on ageing coal-fired power plants, which could be supportive of gas demand.
South Asia could provide some additional demand to mop up excess supply, but analysts have mixed views on these prospects. Bangladesh has cancelled FSRU projects and Pakistan’s energy policy is mired in political upheaval, says Farrer. But Pakistan is still increasing imports despite an “awful electricity situation”, counters Jean-Baptiste Dubreuil, senior gas analyst at the International Energy Agency (IEA).
India finds LNG costly
Farrer sees India as more promising, as it will add more infrastructure in 2019 and Indian buyers have been active in the tender market. “It is a viable sink [for supply], but not a bottomless sink,” says Farrer. The IEA is also forecasting a “slight increase” in Indian demand but cautions that it is dependent on the competitiveness of gas to oil, and lower oil would have a significant impact on Indian gas demand.
IHS’ Stoppard also has cost concerns around an uptick in Indian demand, arguing that any LNG is expensive fuel for an Indian importer. A large part of this is because, while in Europe the TTF price is largely representative, bar some transport and exit capacity costs, of the price a power generator or large industrial user will pay, in South Asia the published prices are for LNG delivered at terminal. Once a power plant has paid regasification and transit costs, potentially including tariffs for crossing Indian state borders, its delivered price could be substantially higher.
A key question for the coming year is how the supply wave will affect price differentials and market functioning. The cost of shipping could play a key role, given its impact on the market in 2018.
Shipping rates, particularly for the most modern dual and tri fuel, Megi and XDF vessels, went as high as $200,000/d for a brief period, says Kpler’s Overgaard. In part this was driven by the new Yamal trains starting up short of shipping, which led it strongly into the chartering market. China’s aggressive forward buying of cargoes in the summer to ensure sufficient storage in Q4 also created a bottleneck.
China was keen to avoid a repeat of the previous winter, when it went into the winter still needing spot cargoes to cover its winter demand and then struggled to source them in the market, pushing the benchmark JKM price as high as $11.70/mn Btu by mid-January 2018. But its increased forward buying and a mild Q4 left it overcommitted, with storage so full cargoes could not be unloaded. Chinese importers such as Petrochina and Cnooc scrambled to swap cargoes to optimise available import and storage capacity where they could, says Overgaard. But at one point up to 13 vessels were idling at Singapore and in the South and East China Sea, effectively as floating storage. China has made efforts to re-sell some of these cargoes-at least one is now pointed at Japan, according to Kpler ship tracking, but even back into the European market.”Most of the recently-loaded US cargoes are headed towards Europe”—Overgaard, Kpler
Shipping rates have dropped back again but remain in a $65,000-80,000/d range. And they are unlikely to fall further, in part, says the IEA’s Dubreuil due to an “utter lack of liquidity” in the spot chartering market, with 10pc of overall vessels assumed to be available spot. But there is also a fundamental reason, says IHS’ Stoppard. In short, liquefaction facilities with a headline capacity of almost 48mn t/yr are coming on in 2019 and only 41 new ships are due to be delivered—shipping capacity growth is not keeping up with volume increases.
A noticeable impact of the shipping crunch is that anyone moving LNG redoubled efforts to optimise shipping distances as much as possible. And that is seen as a key factor in squeezing the Europe-Asia price spread to sustained narrow levels, as the price differential coalesced more strongly around the cost of moving cargoes between the two basins.
In Q4 2018, the JKM premium over TTF averaged less than $1.60/mn Btu, down from almost $2.35/mn Btu in Q3 and from almost $3/mn Btu in Q4 2018, when Chinese storage buying was strong. Also noteworthy is that the JKM’s premium made up just 16pc of its overall price in Q4 ’18 compared to 22pc in Q3 ’18 and 31pc in Q4 ’17.
And this could be a strong pattern as the wave plays out in 2019. Europe should benefit from its proximity to Russia and the US to attract cargoes into a liquid market that can readily absorb supply at least until its capacity for coal-to-gas switching is exhausted. But Asian prices should not venture greatly above the additional shipping costs without attracting supply ready to profit from this arbitrage.
An interesting facet of this dynamic could be greater liquidity in the spot Asian LNG market. “JKM is becoming one of the key natural gas benchmarks. There is no reason why JKM couldn’t trade at the volumes [the UK’s] NBP and TTF do,” says Gordon Bennett, managing director for utilities at exchange Ice. Should oil rebound, stretching the disconnect between an increasingly liquid Asian spot LNG market under pressure from weak fundamentals and rising oil-linked contracts, the momentum for long-term Asian supply to move to more gas-to-gas indexation could snowball.