Oil market spat may boost Asia’s gas demand for power gen

Wednesday, 01 April 2020
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Though the latest oil price crash hits U.S. upstream companies, for Asian buyers it’s a blessing as the pricing of oil-indexed long term gas contracts is bound will come down from late 2020. Sustained lower oil price will substantially lower the price of gas which could prompt large scale coal-to-gas switching for power gen in Japan, South Korea and parts of China.

The price of gas under long-term contracts has been at a premium to hub-priced gas in recent times - but the plummeting oil prices have turned things on its head. “For China, at an oil price of $35/bbl, contracted LNG arrives at a cost lower than domestic wholesale price benchmarks,” traders noted.

While China’s national oil companies would like to keep the benefits of low-cost gas to compensate for years of import losses, the cost reduction will allow the government in Beijing to push through its policy of lowering gas prices to end-users. Analysts noted this supportive policy helps corona crisis-struck businesses to resume operations. However stimulating substantial coal-to-gas switching in the power sector would require gas prices to fall further.

Gas squeezed out in India

Elsewhere in Asia, gas demand can come under pressure from oil as a competing fuel. Notably in India, analysts suggest “a lower oil price could slow the shift from oil to gas in the industrial sector,” as both long and spot LNG prices will compete with fuels like heating oil, LPG and naphtha.

European gas demand and flows will face little impact from even a sustained oil price collapse. Oil-indexed Russian pipeline contracts now account for less than 25% of Gazprom’s portfolio and, regardless, the current market share strategy is unlikely to change.

Algerian pipeline contracts into Spain remain fully oil-indexed and have been sitting at take-or-pay levels. “If oil prices remain low, Spanish buyers would take more Algerian piped volumes,” Ms Huang said. This would not become a possibility until October 2020 due to the lag on the contract - “but in 2021 it would reduce the space for LNG into Spain by 2 billion cubic metres, placing even more pressure on the oversupplied LNG market.”

Gas production plunges

The biggest downside risk from the oil price crash to gas supply is associated with gas production – largely from unconventionals in the United States. “However, it’s not an instantaneous effect,” analysts said, “as prices are still generally above variable wellhead operating costs.”

Most liquefaction projects in the U.S. are supplied from non-associated gas so there’s little direct impact. “The greater risk to supply is pre-FID investments,” said WoodMac research director Giles Farrer. “Lower oil prices will have several consequences for the sector. These include restricted capital investment budgets, reduced appetite for financing LNG projects with exposure to oil prices.

“US LNG projects selling on a Henry Hub-plus basis will also be perceived as less competitive than oil-indexed LNG,” he explained. “As a result, there will be fewer LNG projects taking FID in 2020 and 2021.” Projects in Mozambique, Mauritania/Senegal and Australasia will also come under pressure, translating into lower global supply between 2024 and 2027. In contrast, Qatar - with low fiscal breakevens and an ambition to grow LNG market share long term - is expected to continue to push forwards with its North Field expansion plans. 

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