An oversupplied LNG market could intertwine with political challenges to shape the future of the industry next year.
Liquefaction capacity increases have outpaced demand growth in recent months, resulting in a supply glut and a drop in global gas prices. The start-up of new export facilities in the coming months is expected to continue dwarfing import capacity increases, exacerbating the build up in supply relative to demand.
About 20mn t/yr of export capacity began producing this year and a further 30mn t/yr is expected to come on stream in the first half of 2020, lifting global liquefaction capacity to 456mn t/yr by mid-2020. Regasification capacity rose by only 11mn t/yr this year, with new projects slated to be commissioned next year totalling 18.9mn t/yr.
The utilisation rate of import terminals needed to absorb global production, assuming exports are running at full capacity, would need to increase to 61pc next year from 59pc at present. But some Asia-Pacific terminals are increasingly underused, with Japanese utilisation dropping to 38pc in January-October from 41pc a year earlier, and the lowest since the Fukushima-Daiichi nuclear disaster. Elsewhere, the development of domestic or regional resources could lead to facilities being kept in place for security of supply but structurally underutilised — as in the cases of Egypt, Jordan, Israel and Mexico.
This may put additional strain on European terminals, which have been running at 53pc of capacity in January-November, up from 28pc in 2018 and the five-year average of 25pc. As a result, LNG prices have tracked European gas hubs below oil-linked prices and several coal-to-gas fuel-switching levels — and have been close to the point at which some capacity could be shut in to avoid further losses.
But to some extent, the direction that the LNG market will take will depend on political considerations. Russia and Ukraine agreeing to an extension of their existing transit contract, which expires at the end of December, or a new deal may pressure European prices and squeeze margins for US exporters. But disruption to Russian supplies, if flows through Ukraine were to halt next month, may boost Europe's ability to absorb LNG — but only until flows through Russian state-controlled Gazprom's Nord Stream 2 pipeline start in mid-2020. Further Russia-Ukraine gas transit talks are being held on 19 December.
The impact on the energy markets of the recent interim trade agreement between the US and China remains uncertain, and even a rollback of the existing tariffs on LNG may have a limited impact on short-term global trade flows. China's tariff has spurred demand for cargo swaps in Asia-Pacific in recent months, which has reduced the effect of the trade war in terms of the global supply-demand balance.
In the long run, a prolonged trade war may have a much deeper impact on the LNG industry, as some recent slowdown in manufacturing activity shows. Having limited access to the quickest growing LNG market in the world makes it more challenging for many US developers to fund their projects.
Rising US volumes indexed to gas prices had already called into question the traditional model of point-to-point, "virtual pipeline" contracts. A prolonged period of lower prices and unprecedented liquidity may hasten an industry transformation already in progress — becoming a nail in the coffin of oil indexation — and usher in an era of shorter-term contracts and indexation against global gas prices.
This could further complicate project financing, which is already becoming problematic for an industry whose future is being called into question by environmental concerns. The European Investment Bank has approved new lending guidelines that are likely to hamper investments in gas projects, particularly if private banks start following a similar path.
Political pressure on the fossil fuel industry is expected to intensify in the coming months. The new European Commission has announced an ambitious package of climate policy measures, with a 2030 emissions reduction target to be announced by October. The European Central Bank has also pledged to put the environment at the heart of its future investments. The gas industry could be the next casualty, unless it proves it can and should retain a role in a decarbonised economy.
By Antonio Peciccia
