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Geopolitical crises jolt moribund gas markets back into life | EU LNG chart deck: 9-13 Oct 2023
European gas futures jumped 23% last week on a flurry of gruesome and head-spinning headlines that, aside from so much else, revived fears of northern hemisphere winter gas scarcity. But there’s been no major change in consumption patterns and fundamentals remain weak. The mismatch between gas demand and prices is both completely irrational and entirely understandable — markets are ‘predictably unpredictable’. Another wildcard is the oil price risk premium, which could trigger subtle changes in Asian LNG procurement. Let’s get stuck in.
The European gas market was roiled by a frightening combination of sabotage of the Balticconnector gas pipeline between Estonia and Finland, outright war between Hamas and Israel, renewed fears of potential strikes at LNG production facilities in Australia, and forecasts of colder weather in the coming weeks.
Israel’s war-related shutdown of the Chevron-operated Tamar platform is perhaps the most significant development in terms of near-term physical supply-demand balances because it undermines Egypt’s ability to export LNG from its Idku and Damietta plants. The situation with Balticconnector does not portend immediate supply disruptions, and even if the pipeline remains offline for several months the impact would be unlikely to spread far beyond Finland. But in the wake of the Nord Stream bombings, incidents such as this have a psychological impact on market participants.
The TTF forward curve was duly ruffled. The November contract closed last week at $16.63/MMBtu, marking the TTF front-month’s first foray above the $16 threshold since May and its highest settled price in eight months. It leapt above JKM, the Asian LNG benchmark, reasserting a nominal ‘European gas premium’ that might attract spare LNG cargoes looking for orders.
The JKM front month contract (also November) was static, but futures prices further out on the curve did jump. This suggests that buyers in Asia are not overly concerned about near-term imbalances but on alert should European jitters persist over a cold winter.
For now, it looks as though a nervous Europe has taken the reins of global LNG prices. This is not an explicit market signal calling for actual LNG cargoes to redivert into European LNG terminals (not least because slots are scarce and storage is full). It is perhaps best seen as a reminder that Europe’s energy security rests on LNG and the continent will do what it takes to secure supplies if market conditions deteriorate further.
Two charts substantiate this view. The strong inversion in the month-ahead Europe-US spot LNG netback relative to US-Asia would seem to suggest the market is calling for more LNG in Europe right now, as a matter of urgency.
But looking further out, global LNG trade is more finely balanced. This supports the view that near-term price action is overplayed and based on supply tightness fears that are not grounded in reality. Moreover, very few spot trade decisions are ever based on sharp changes in month-ahead pricing, but rather settled a couple of months in advance of physical delivery. On that basis, it’s still a close call on winter cargo destinations.
That narrow European margin is vulnerable. Analysts expect European gas prices to fall this winter on high storage levels, weak demand and mild weather. LSEG Gas Research said on Friday in an analyst note that, even in an extreme cold scenario, it “does not see a risk of depleted storages by the end of this winter with stocks ending just slightly below last average of 5 years”.
Wayne Bryan, director of gas research at LSEG, had this to say:
“The combination of fundamental and geopolitical risk on a now inflexible market, has laid bare how fragile and intertwined with global events the European gas market is. We expect enhanced levels of volatility to remain in play until the large wave of LNG projects, currently under construction, come online in 2025/6.”
Taking a wider view, that anticipated new wave of LNG production capacity will be supplying a highly unpredictable market come mid-decade — one “characterised by slower growth and higher volatility,” the IEA said in its latest Gas 2023 Medium-Term Market Report.
Overall gas demand in mature markets in Asia Pacific (primarily Japan and South Korea), Europe and North America peaked in 2021, and is forecast to decline by 1% annually through to 2026, according to the report.
Flaccid fundamentals
Nowhere is this more evident than in the European power sector, where carbon pricing is keeping gas firmly at the margins. In Germany, the profitability of gas-fired power is dipping negative in May-24 despite a rise in the calendar contract for baseload power. Why? EU ETS allowances have rallied from €80 to >€87 per tonne this month, eclipsing gains from the rising power price.
There is less up-to-date information on industrial and household demand, but the available data suggest monthly gas consumption has remained below the 2019-2021 average in those sectors since at least June 2022.

When high prices run into low or weak demand, there is a correction. The latest geopolitically-driven spike on TTF is, once again, driven by nervous sentiment in an erratic market that is yet to fully internalise the fact that demand is now structurally lower for longer, if not forever. The extent to which lost demand offsets lost Russian pipeline volumes is not yet clear, which is why the mere suggestion of a tightening market sends prices spiralling like this.
Oil, war and LNG
There is another factor at play that has the potential to inject fresh momentum into winter spot LNG procurement, particularly in Asian markets: oil prices.
Brent crude is again above $90/barrel, although the curve is notably backwardated and that’s been the case for weeks if not months. But the potential for geopolitical events to command a risk premium cannot be ruled out.
The Israel-Hamas conflict has no direct bearing on Middle East oil flows. But if events spiral into a full-blown Middle East regional war, all bets are off. In an extreme scenario, vessels traversing the Strait of Hormuz to take Saudi, Iraqi and Kuwaiti exports to market could be seized or come under rocket attack from the Iranian side. This is not historically unprecedented.
Separately, Iranian crude exports are coming under fresh scrutiny. Illicit Iranian oil has been flooding into the ‘dark market’ all year, and the US can no longer turn a blind eye to this. A fresh round of sanctions against Tehran for its support of Hamas is expected, which might steady that flow.
Other factors could keep bullish moves in check. A grand bargain between the US and Saudi Arabia could see more arms flow in exchange for higher production quotas from OPEC’s de-facto leader. This is a distinct possibility.
The risk, however, is that events overtake diplomacy and regional stability starts to disintegrate. If the market senses things are moving in a more scary direction, the risk premium on crude will swell.
What does this mean for gas?
Any surge in oil prices makes LNG more expensive for buyers on long-term contracts, which still underpin the majority of global LNG trade.
Currently, any buyer on a slope to Brent or JCC (Japan Crude Cocktail, a common benchmark in LNG pricing) is enjoying a discount to the spot LNG price. This has been the case since mid-2021, when Russia’s pre-invasion weaponisation of pipeline flows tightened global gas supplies and sent spot LNG prices surging above oil-indexed contracts.
We are not all that far from another inflexion point. If this were to occur then LNG buyers on oil-indexed contracts could temporarily switch to spot purchases to save money. They would do so by exercising the ‘downward quantity tolerance’ clause in their contract. DQT allows a degree of downward flex in the volumes lifted in any given period as stipulated in the long-term sales and purchase agreement (SPA).
LNG buyers on oil-indexed SPAs are predominantly state-affiliated entities located in Asia-Pacific and South Asia, although some are in Europe and other regions. If enough of these buyers were to dial down their SPA liftings and dip into the spot market, this would increase competition for spare cargoes upon which Europe relies to meet marginal demand.
There is a natural ceiling on the impact this can have: as soon as the spot price rises above the value of oil-indexed LNG in a given SPA, that buyer would revert back to its normal buying pattern. Also, LNG cargoes postponed via DQT are not lost to the market and could still be sold on a merchant basis, depending on the producer/exporter.
But the oil-LNG relationship is an underappreciated potential source of additional gas price volatility that is worth bearing in mind as catastrophe engulfs the Middle East and the energy world is once again turned on its head by geopolitical events.
Seb Kennedy | Energy Flux | 16th October 2023
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Thank you for explaining oil-linked LNG contracts!