US Turns LNG Swing Provider?
Updated: Nov 27, 2019
📷The interesting Bloomberg article below suggests in the future the United States will shut in LNG exports and become the swing LNG supplier to the world. This notion is based upon predictions of current and future "LNG Oversupply" and has been prolific in the ranks of global LNG traders, developers, gas producers, and LNG writers. However, I believe the US as "global swing LNG supplier" argument does not place appropriate weight on the structure of US LNG terminal capacity holder pricing. Moreover, the argument does not consider the ever-present price elasticity of LNG demand and potential global economic recovery.
United States energy executives have revolutionized the LNG industry and have transitioned LNG pricing from traditional take-or-pay, brent-based, fixed-destination agreements (which historically have been renegotiated every several years) into largely fixed-demand plus variable-commodity charge, NYMEX-based, flexible destination contracts. The typical LNG demand charge serves, in part, to provide terminal owners dependable revenue from capacity holders to pay for the substantial debt payments associated with the liquefaction facilities. The variable commodity-based charge is designed to correspond with the associated with cost of the natural gas feedstock. This relatively new LNG structure has roots perhaps culminating in 1992. At that time, the new FERC Order 636 served to formally separate natural gas purchases from interstate pipeline transport. US interstate pipelines, in turn, ended up bifurcating their gas transportation pricing into demand and commodity components.
The typical US-based LNG pricing structure inherently incentivizes capacity holders to continue to export US LNG even when global LNG prices are low. A large percentage of the total LNG cost is typically represented by a demand charge which is paid by capacity holders even when LNG is not lifted for a scheduled month. So generally, if remaining variable cost plus shipping equals less than destination LNG pricing, then the capacity holder will logically continue to export LNG for the relevant month. In sum, marginal-cost of US LNG contracts creates compelling economics that keep LNG flowing from the US. However, there are also other economic factors at play.
The second reason the US will likely continue to flow LNG is the stimulative effects of price elasticity of demand. For decades now, analysts have underestimated the stimulative effect on demand of low commodity pricing, both domestically in the US natural gas market, as well as, globally in the LNG market. Truly, who ever thought the US would be able to handle the recent record 92 Bcf per day of dry natural gas production? When I traded gas, I never dreamed demand could expand to this magnitude to be able to dispense with natural gas that keeps growing (and keeps pricing low).
Historically, we generally underestimate the effect lower LNG prices have on global LNG purchases. As LNG global prices remain low, the more LNG will be utilized as a fuel or feedstock. This is not just a longer term reaction, but rather, the stimulative effect can be rather rapid. For example, India with remarkable market pricing discipline, utilizes comparative pricing to adjust their LNG purchases for refineries and fertilizer plants. The lower that natural gas prices become in comparison to naptha, the more GAIL and other importers in India purchase LNG for import.
On a medium and longer term horizon, a lower LNG price stimulates incremental energy use as well. For example, LNG has been historically used to reach areas without access to traditional pipeline natural gas. Here, lower natural gas prices stimulate more LNG demand for new or retooled power plants. In relatively quick time frames, floating storage regasification (FSRU) companies, such as Golar, Excelerate, and Hoegh, have quickly responded to market forces by building / stationing regasification facilities within 12-18 months of FID. Responses to lower LNG prices such as these, increase LNG demand and inherently force regional and global LNG price points upward until supply and demand become balanced.
No one knows how the US LNG variable pricing structures, combined with price
elasticity of demand will together will respond when the huge incremental amounts of LNG supply reach the market. But a final factor, global economic recovery, remains the largest unknown factor of all. If the world (including China) follows the United States' lead into significant economic recovery, then the demand for LNG will surpass all expectations and corresponding LNG pricing will recover to levels not witnessed in quite a while. www.morganshields.com Scott Shields Katy, Scott Shields Houston
Please read the Bloomberg article below.
Gas ‘Witch’s Brew’ Has U.S. Exporters Facing Worst Scenario
Naureen S. Malik and Anna Shiryaevskaya 6 hrs ago, reposted by Scott Shields, Katy, Scott Shields Houston
(Bloomberg) -- A global glut of natural gas has gotten so massive that U.S. exporters could soon face their worst-case scenario: Halting shipments to get supply and demand back in balance.
Prices for the heating and power-plant fuel may collapse in Europe and Asia next year to levels that would force U.S. liquefied natural gas suppliers to curb output, Citigroup Inc. said in a note to clients last week. Morgan Stanley sees as much as 2.7 billion cubic feet a day of American exports curtailed around the second or third quarter, assuming normal weather. That’s about half the volume now being sent abroad.
China’s demand for U.S. LNG has plunged amid the trade war, while Europe’s gas storage is almost full and tankers carrying the fuel are taking unusually long journeys in search of better prices. That’s created a “toxic witch’s brew” that’s making it harder to find a home for American exports, according to Madeline Jowdy, senior director of global gas and LNG for S&P Global Platts in New York.
“It’s also a harbinger of bigger troubles ahead for U.S. exporters in the second quarter of next year, when global demand is at its weakest point and the U.S. will have even more volumes to place” as new export terminals start up, Jowdy said in an email.
Capping LNG production is an extreme measure, but the idea is gaining traction as new terminals from the U.S. to Australia unleash exports faster than demand can catch up. Gas for near-term delivery in Asia has lost half its value in the past 14 months, with the Dutch benchmark nearly matching that decline. A mild winter would make the glut even worse -- bad news for U.S. suppliers like Cheniere Energy Inc. and Sempra Energy.
In the past three years, soaring gas output from shale basins has vaulted the U.S. into the ranks of the world’s largest LNG producers. The nation is widely seen as a so-called swing supplier because its exports can respond quickly to a volatile market.
Curtailments can happen when customers such as trading houses, which resell the fuel to utilities and other end users, refuse to load cargoes because prices are too low to cover shipping costs and still make a profit. The cancellations can force exporters to cap, or “shut in,” LNG production as their storage tanks fill up.
While customers of American LNG export terminals have to pay a fee to reserve the fuel under long-term contracts, they can opt out of buying with 30 to 60 days’ notice. That’s in contrast to traditional contracts from suppliers like Qatar and Australia, which require buyers to take or pay for a fixed amount whether they need it or not.
Singapore’s Pavilion Energy Pte said this month that it canceled the loading of an LNG cargo from the U.S., though Pavilion said the decision was based on logistics and didn’t directly attribute it to low gas prices. But additional shut-ins of American exports could follow, Michael Webber, managing partner of Webber Research & Advisory LLC, said in an email.
With the exception of the Pavilion cargo, though, buyers of U.S. LNG have continued to load shipments. Traders will likely need to have a view of at least two months out to cancel, Peter Abdo, chief commercial officer for LNG and origination at Uniper Global Commodities SE, said at the Bloomberg Commodity Investor Forum in London this month. Uniper doesn’t plan to refuse cargoes, he said.
The top executive at Cheniere, the largest U.S. gas exporter, has dismissed concerns about shut-ins.
The question “never ceases to amaze me,” Chief Executive Officer Jack Fusco said during the company’s third-quarter earnings call last month. Cheniere’s cargoes “are extremely competitive,” Fusco said. A representative for Cheniere declined to comment on possible LNG production curtailments, while Sempra declined to discuss commercial arrangements.
So far, the premium for winter gas over near-term prices has spurred record American shipments. But European gas prices could potentially slip below $3 per million British thermal units in the spring and summer, potentially forcing U.S. exports to shut in, Citigroup said in its report. Gas at the Dutch Title Transfer Facility is now trading near $5.
Benchmark gas prices in the U.S., Europe and Asia are expected to remain under pressure next year from strong supply growth, Goldman Sachs Group Inc. analysts said in a research note Monday.
“There’s too much gas in Asia, there’s too much gas in Europe and that means the U.S. may need to be the swing supplier,” Devin McDermott, an equities analyst and commodities strategist for Morgan Stanley in New York, said in a telephone interview.
(Updates with Goldman Sachs note in penultimate paragraph)
--With assistance from Stephen Stapczynski.
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