Spread thin

Published at 11:09 29 Mar 2018 by . Last edited 15:12 5 Nov 2018.

After a winter in which peak prices were supported above 10 $/mmbtu for longer than in either of the last two winters, it is abundantly clear that the global gas market is having its ‘China moment’. 

The big question for the summer global balances is just how much incremental gas demand we might expect to see from China—the answer is likely to be a lot. Even our fairly bullish assessment of a 4 Mt y/y increase for the April-September period could have upside, given that industrial gas connections in China rose by an estimated 30% over 2017, thus adding a decent chunk to baseload demand. This is further underlined by the expansion of storage capacity (particularly the start of injections into Sinopec’s new 4 bcm Wen storage facility), more regas capacity, and the renewing of the coal-to-gas switching policy (with the target even higher than last year). We now expect China to take 11 Mt more y/y in 2018, which would effectively absorb the output of two and a half new supply trains. 

Supply continues to have issues. PNG LNG is out for at least all of April, while new projects are also facing delays, with Cove Point still finishing up its commissioning process, with a view to a steadier ramp-up in exports over the coming two months. The first 4.4 Mtpa Ichthys train was delayed again, by at least one month due to storms delaying commissioning works. Revised guidance on the start of exports was somewhat woolly, but LNG exports now look unlikely before June and a start in July cannot be ruled out. Elsewhere, Wheatstone 2 was confirmed as a Q2 18 start, while Prelude could be delayed to Q2 18 after Shell reported in early March that it would likely open wells that will feed the ship in the ‘next couple’ of months—hardly firm guidance. 

JKM prices started their seasonal slide over March, with prices for May delivery dropping from 7.95 $/mmbtu to 7.24 $/mmbtu. More important for flow dynamics is the impact of this on the spread between the JKM and TTF. The JKM-TTF spread has started to narrow, but it has generally stayed wide enough to ensure that the netback for US cargoes was still higher for cargoes sent to Asia. The question is just how narrow does that spread need to go before the economics of the trade switch and Europe becomes more attractive as a destination? The answer is far from straightforward, as it depends on which costs are considered fixed and which are variable—and that will be different for different participants. We see the preference for the Atlantic basin emerging at spreads of 0.7–1.3 $/mmbtu. We only expect to see a more profound bias for North America LNG to stay in the Atlantic basin once the spread narrows below that range, as this is where the tipping point for many participants with US gas offtake capacity is likely to be. At the very least, we expect to see the spread drop below 0.7 $ mmbtu for Q3 18 delivery.  

For the 2018 summer strips, we expect that the TTF will tend towards the 17.5 €/MWh (6.3 $/mmbtu) fuel switch trigger, keeping the arbs with the US wide open, even if that only provides a netback of no more than 2.5 $/mmbtu—unlikely to cover all of the fixed capacity costs, but still making most of them back. We continue to think that the implied summer spread between the JKM and the TTF is too wide. There will be some eventual pressure to narrow those spreads, particularly when the trio of expected Australian trains all come online. For the coming summer, we expect the spread between spot LNG and Brent-indexed LNG will widen.   

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