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Global gas: Oil price rise helps US LNG

24 Nov 2017, 11.40 am GMT

Global gas: Oil price rise helps US LNG

London, 23 November (Argus) — Oil prices increasing since June could raise margins for US LNG offtakers and reduce the chance of liquefaction trains being shut in.

North Sea Dated hit $64.48/bl on 10 November, which was its highest since May 2015 and up from below $45/bl in the second half of June. It has since slipped from its 10 November high, but consistently remained above $60/bl.

An increase in oil prices could weigh on the Henry Hub and support some global LNG markets, potentially raising margins for US offtakers.

Firmer oil prices can encourage an increase in US crude production, with a lag, and drive associated gas output.

"Oil market fundamentals are also an important factor in our outlook for US gas production," the IEA said in its World Energy Outlook.

The share of associated gas has increased and accounts for 20pc of US output because of the rise in tight oil production. Associated gas output continues to rise until the mid-2020s when tight oil production plateaus in the IEA's new policies scenario.

An increase in associated gas production could weigh on Henry Hub prices, reducing the cost of supply for liquefaction trains.

But lower Henry Hub prices could discourage investing in dry gas output, which would reduce production with some delay.

Gas output edges higher

Aggregate US gas production has increased since mid-2016 with firmer oil prices. Gas output had climbed steadily for much of 2008-14, but growth stalled in 2015 following the downturn in oil prices starting in 2014.

Production peaked in February 2016, not long after oil prices hit a low the preceding month after tumbling steadily since mid-2014.

There is a lag in associated gas production responding to higher oil prices, although it is typically short with unconventional production. US gas output reached a low in July 2016 — six months after crude prices bottomed out — and has since edged higher, although the rate of growth has been much slower than in 2006-14.

And Henry Hub prices may need to rise to encourage higher dry gas production. US gas output rises faster than domestic consumption in the IEA's new policies scenario, which would be required to maintain LNG exports with the scheduled rise in liquefaction capacity.

But the increase in production in the scenario is contingent on a gradual price increase to $3.70/mn Btu.

"In our modelling, current price levels of around $3/mn Btu at the Henry Hub are insufficient to deliver the incremental production projected in the new policies scenario," the IEA said.

Gas production increases to 1.06 trillion m³ in 2040, up by 40pc from 2016, with the ramp-up in shale gas production "particularly steep in the period to 2025".

Exports to Europe

A slow price rise to $3.70/mn Btu would be at enough of a discount to European hubs to encourage US LNG exports, given the shape of the TTF curve.

European prices more than $2/mn Btu above the Henry Hub would easily be enough to encourage US LNG deliveries and prevent trains being halted. And there are usually more profitable destinations outside Europe, which is typically a last resort for cargoes.

Europe's premium would only need to cover sunk costs, which could be as little as 20¢/mn Btu — depending on shipping costs — if firms have their own tankers and regasification capacity.

Oil price rise opens opportunities

Firmer oil prices could also support global LNG markets, which have typically reverted towards crude-linked levels over the medium term in recent years.

While crude-linked contractual LNG prices do not typically provide much resistance for global LNG markets, oil sets other support levels. And this would create opportunities for US LNG even in the event that the planned rise in global liquefaction capacity exceeds growing demand in premium markets, resulting in more cargoes being sent to Europe.

Firmer oil prices could make it easier for LNG to compete in parts of Europe where crude-linked pipeline supply is still prevalent, such as Spain, Italy and the Baltic states.

In a scenario with more cargoes being dumped in Europe, global LNG prices could slide below the cost of oil-indexed Algerian pipeline gas. Spain and Italy could buy more LNG and turn down Algerian receipts, depending on the flexibility of their pipeline contracts.

The PVB and PSV front-month markets mostly held above northeast Asian LNG prices but below crude-linked levels in the 2017 summer, with Spain and Italy receiving more cargoes and less Algerian pipeline supply. Most long-term take-or-pay deals include the flexibility to delay imports into future periods of the contract.

And the expiry of long-term contracts for delivery to Spain and Italy over the next few years could make space for LNG, if it is competitively priced.

Dry weather reducing hydroelectric generation and boosting power sector gas consumption also helped Italy and Spain take more LNG in the 2017 summer. Higher hydroelectric generation would make it harder for southern Europe to deal with brisk LNG imports.

And LNG has also competed with crude-linked pipeline gas in the Baltic states. Lithuania has increased LNG imports at times when cargoes have been cheaper than oil-indexed supply, which has mostly been in the summer months, and increased Russian receipts when LNG is more expensive

Other countries with crude-linked gas may also be able to turn down Russian imports if Europe can secure LNG cheaper than oil-indexed imports, which may provide more flexibility for the region to absorb supply. But the majority of Russian state-controlled Gazprom's contracts for delivery to northwest Europe, which has substantial spare LNG import capacity, have moved towards hub-indexation. The shift towards hub-indexation has resulted in TTF prompt and near-curve prices detaching from oil-linked levels.

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US gas production by type bn ft³/d

US gas production growth slows bn ft³/d

North Sea dated at highest since May 2015 $/bl

PSV and PVB above ANEA for parts of summer €/MWh

Spain switches to LNG from Algerian pipeline gas GWh/d

Asian LNG markets revert to oil-index $/mn Btu

TTF is diverging from oil-indexed prices €/MWh

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