November gas market fundamentals were bearish in South Korea, with mild weather and higher nuclear availability denting aggregate gas demand. But the flurry of LNG buying late in summer 2018 ensured that November saw strong imports, with total port receipts up by 0.7 Mt (22%) y/y at 4.07 Mt. The combination of weak demand and strong receipts led the country to post a net stockbuild of about 0.36 Mt last month. The country headed into December with a significant y/y storage surplus of about 0.9 Mt, with stocks at least at a four-year high. With weather forecasts being biased towards a mild Q1 19 and available nuclear capacity expected to continue to increase in coming months, South Korea will need to substantially slow imports y/y in order to clear its record-high stocks. We forecast that LNG imports will drop by 0.1 Mt (1%) in December but will fall by almost 2 Mt y/y (15%) in Q1 19.
While the weather has gone through a short-lived cold patch in the early part of December, South Korean HDDs are still on track to be 18% lower y/y and roughly 8% below the past five-year average in December. With HDDs set to be down y/y, aggregate power consumption and res-com demand should be muted this month. Additionally, power sector gas demand should take another y/y hit this month owing to higher available nuclear capacity. A total of 6.7 GW of nuclear capacity is offline at the start of December, broadly unchanged m/m but 31% lower y/y, compared to November’s 25% y/y drop in unavailable capacity. November was the first month since August in which there was more nuclear capacity available y/y, one of the primary reasons behind last month’s 0.09 Mt (7%) y/y drop in power sector gas demand, the first y/y decline in a year.
For Q1 19, we are still forecasting based on an assumed return to average temperatures, which would lead to a decline in heating demand y/y in both January and February. With better assumed nuclear plant availability as well, end-user gas demand in Korea looks soft. We do think that Korea will start to dip more into gas in storage over the peak demand months of December to February period, but high existing stock will reduce the need for Korean buyers to look for restocking cargoes while at the same time opening up the possibility of Korean buyers selling cargoes into the market.
While Q4 18 seems to be too early in the winter for many cargoes to be resold, the further we go through the winter with little in the way of storage draws, the more likely it will be that Korean buyers become sellers.
Korean nuclear plant updates
Korea Hydro and Nuclear Power (KHNP) has made a number of delays to the construction timeline of the new nuclear reactors that are being built. As a result, we have softened the power sector gas demand decline post-September 2019. Even though the construction progress percentage is slowly creeping up on the KHNP site, planned opening dates have consistently been pushed back, with only the Shin Kori U4 now scheduled to be online by Q3 19. The most significant impact is the one-year delay to the 1.4 GW Shin Hanul U2 plant, which is now expected to enter service in September 2020.
Shin Kori U4 is scheduled to undergo fuel loading this month, having completed constructed in March and having passed its technical examination. However, the plant has been waiting for permission to operate from the Korean Nuclear Safety and Security Commission for more than a year. We have not seen confirmation of final approval or of fuel loading and there were reports from 12 December of a discovered fault in the seawater cooling system. The most recent KHNP forecast has the plant coming online in August 2019. However, given that the Shin Kori U3 took just over a year between fuel loading and full operation, we see this projection as optimistic.
The KHNP update on Shin Hanul shows that construction on units 1 and 2 is 98.2% completed, with the high-temperature testing for unit 2 set to have commenced in November, although this has yet to be confirmed. The 1.4 GW Shin Hanul U1 is currently scheduled to be operational in November 2019, with U2 expected to come online in September 2020.
In terms of longer-term projects, construction on Shin Kori U5 and U6 has resumed after the ending of a round of public debate on the project. Construction is reported to be 38.74% completed, with first concrete having been poured for the structure of U5. Given the delay caused by the public debate, the project was running 4.4% behind schedule. Currently, U5 is scheduled to be commissioned in March 2022, with U6 expected online a year later in March 2023.
2019 and 2020 balances: getting gas into power
In terms of supply and demand fundamentals, South Korea’s bearish balance for 2019 is on course to stretch into 2020, but there are dynamics driven by relative fuel prices that should have a significant effect on how JKM prices move that year. The first of these events is the change in fuel taxes on 1 April 2019, which will tilt the structure of border taxes from being pro-coal to pro-LNG. The second is something of a shift in expected relative prices. We are constructive on oil prices over the next two years, with average prices coming in for 2019 at 77 $/barrel and for 2020 at 88 $/barrel. With that likely to keep the upwards cost-push pressure on delivered coal, the start-up of so many new trains means the LNG market is looking like it will lurch into a period of being very well supplied and this will weigh on the JKM. While the JKM gets cheaper and if Korean carbon prices continue to remain high at around 20-25 $/t, gas should be getting increasingly competitive against coal in power generation and we could see more significant fuel switching. The main headwind for this to happen is Korea’s market structure, specifically the fact that so much gas supply into the power sector is imported by Kogas and comes in under a Brent/JCC index. While Kogas is diversifying its contract structure so that Henry Hub indexation becomes more prevalent, its average incurred contract prices are still likely to come in above the JKM spot price.