China’s natural gas import growth continued to slow in May, with total arrivals reaching 7.56 Mt—a y/y increase of 2% and the lowest rate of growth since March 2017. LNG takes were up by 0.31 Mt (8%) y/y at 4.43 Mt. Higher LNG imports alongside rising domestic output of 14.4 bcm (+1.7 bcm y/y, 14%) were more than enough to offset the drop in pipeline flows (-0.14 Mt y/y, -4%), the second consecutive y/y fall. While demand data has yet to be released, buyers seem to be taking a breather; stock levels remain high, and uncertainty surrounding the demand outlook and reform trajectory is weighing. While Presidents Trump and Xi are set to meet at the sidelines of the G-20 in late June, the meeting will at best prevent further tariffs rather than scale back existing duties, suggesting further downside pressure on the economy. In addition, the state-owned majors are now waiting for the launch of the new state-owned midstream company later this summer, as it will impact their distribution fees and cost structures. As long as demand growth remains tepid, buyers are holding off, awaiting clarity on both demand and supply costs.
Chinese natural gas imports in May reached 7.56 Mt, inching down from 7.65 Mt in April but up y/y by 0.17 Mt (2%)—a lower increment than our forecast—and leading to a 1 bcm downward revision for total imports in 2019. We now expect China to source 19 bcm of additional imported gas (of which 14.0-14.5 bcm is LNG and 4.0-4.5 bcm is additional pipeline gas), compared to our previous forecast of over 20 bcm y/y combined.
Yet even though import growth is at its lowest in two years, appetite for LNG continues to outpace pipeline takes. Total LNG takes in May were at 4.43 Mt (+0.31 Mt, 8% y/y), more than offsetting a drop in pipeline flows, which recorded their second consecutive y/y drop at 3.13 Mt (-0.14 Mt, -4%). Imports as a whole, though, have been soft, with the uptick in LNG imports at a three-year low. With average LNG costs falling to 8.53 $/mmbtu in May compared to 7.74 $/mmbtu for piped gas, the spread between LNG and pipeline gas is at its lowest since March 2017, prompting buyers to opt for LNG over pipeline takes. In May, China’s largest LNG supplier remained Australia at 2.32 Mt, with arrivals falling m/m by a strong 0.47 Mt—but still higher y/y by 0.53 Mt, priced at 8.99 $/mmbtu, at the high end of the scale. Imports from Malaysia surged in May at 6.11 $/mmbtu, rising y/y by 0.26 Mt to a record 0.86 Mt. Russian LNG flows increased to 0.19 Mt (from zero in May 2018), priced at 7.53 $/mmbtu.
With Chinese buyers starting to source LNG from Yamal, and CNPC and CNOOC agreeing to a stake in Arctic LNG 2, imports from Russia are set to rise in the coming years with pipeline arrivals expected in early 2020 as the Power of Siberia pipeline enters operation. The allure of Russian gas is increasing rapidly given worsening US-China trade relations.
From its existing suppliers, pipeline flows fell in May for the second consecutive month (-0.14 Mt y/y, -4.3%) with Uzbek arrivals leading the declines at 0.35 Mt (-0.17 Mt y/y), followed by Turkmen flows, which were down y/y by 0.13 Mt. Imports from Kazakhstan continued to rise, however, reaching a record 0.51 Mt (+0.14 Mt y/y); they were also the lowest-cost pipeline gas at 5.57$/mmbtu and have been benefitting from a larger allocation on the West-East pipeline. Arrivals from Myanmar inched up from 2018 levels to 0.25 Mt in May, despite their hefty price tag (9.79 $/mmbtu), although this gas comes from CNPC’s upstream stake in Myanmar.
Domestic production also weighing on imports
Contrary to slowing import growth in May, domestic output surprised to the upside, coming in at 14.4 bcm—higher y/y by 1.72 bcm (14%), despite the start of upstream maintenance. As a result of this strong output profile, our production growth forecast for the year has also been revised up to 14 bcm y/y, compared to 13 bcm y/y in our previous balances. Coalbed methane (CBM) gas production is also up y/y by 0.46 bcm in the year-to-May compared to a 0.23 y/y decline in the first five months of 2018. A combination of higher-than-expected domestic production and slowing demand growth is chipping away gradually at imported gas demand.
The new midstream company is generating concerns
While we had expected the new state-owned midstream company (set to launch later this summer) to tilt the balance in favour of LNG over pipeline gas, anecdotal reports from the domestic market suggest it is cooling appetite for imports more broadly. With subdued demand growth—even though May data have yet to be released, the fall in domestic prices and the low level of imports suggests demand is slowing—and satisfactory stock levels, buyers seem to be holding off from any short-term buying, given the uncertainty surrounding the pricing structure and fees associated with the new pipeline company. The new company is expected to be a ministerial-level state-owned company, on par (in terms of ranking) with CNPC, Sinopec and CNOOC. All of the majors’ pipeline assets (except for cross border pipelines) will be transferred to the new company, but it remains unclear whether or not some LNG regas terminals will also be transferred to it. Its launch has now been postponed from June to August, but this could be delayed even further as final details are ironed out, so Chinese buyers may be waiting for clarity before dipping back into the spot market.
An uncertain economic outlook
With gas demand growth coming predominantly from industry in China, the biggest question mark around demand growth remains the macroeconomic outlook and the fate of the US-China trade talks. The planned meeting between Presidents Xi and Trump at the sidelines of the G20 meeting is likely to result in another ‘ceasefire’ to allow talks to resume while delaying additional tariffs from being imposed, but it is unlikely to yield a major deal between the two sides. As such, the economic pressure from existing duties will increasingly manifest itself. Macroeconomic data in May painted a sluggish picture of the Chinese economy, with fixed asset investments growing by just under 4% y/y—down from 5.7% y/y growth in April—while industrial production growth, at 5% y/y, also fell from April levels.
Beijing has already taken measures to increase credit growth in the coming months, while infrastructure spending is also expected to rise after the government’s mid-June move to ease restrictions on local government lending for infrastructure spending. These measures should cushion some of the economic downside from the latest round of US trade tariffs, which came into effect on 1 June. Beijing still remains selective in its support measures as it wants to avoid a 2016-style credit reflation for fear of undermining its financial deleveraging campaign. The Chinese government is likely waiting for the outcome of the G-20 meeting before deciding on its next economic support measures, which in any event will only be decided in the next politburo meeting this summer. Any recovery in the Chinese economy will be gradual, and industrial demand, which represents the largest gas consumer, will weigh on gas demand growth. Weakening industrial demand was also evident in power consumption data, with May industrial power consumption coming in higher y/y by 1.8%—its weakest growth rate since March 2018.
Modest gains for gas in power
Total power demand was also weak in May, coming in higher y/y by 2.7%, its softest since February 2018. But while power consumption is a significant indicator for the health of the economy, it is a less telling sign for gas demand growth given the limited share of gas in power. According to the China Electricity Council (CEC), China’s gas-fired capacity reached 84 GW in 2018—a chunky 10.5% y/y increase—but it accounted for just 4.4% of total generating capacity of 1,900 GW. The government intends for gas to account for 110 GW of capacity by 2020, a target that is likely within reach, but upside is unlikely.
In 2018, gas-fired plants generated only 216 TWh of electricity, or 3% of total supply, with high gas costs and a non-liberalised power market making penetration difficult. According to CEC, gas-fired power generators operated with an average load factor of 32% in 2018, compared to 51% for coal-fired power plants and 86% for nuclear power generators. Moreover, competition from wind and nuclear power, for which costs are dropping, could limit even these modest increases in gas-fired power generation.
In Guangdong, gas-fired power was reportedly priced at 0.6 yuan/kWh (0.09 $/kWh) last year, compared to an average 0.34 yuan/kWh (0.05 $/kWh) for both coal and nuclear power—and more expensive than wind power generation at 0.47 yuan/kWh (0.07 $/kWh). Gas is likely to remain a minor contributor to the Chinese power system, given also that the government has mandated local officials to set targets for renewable power in their regional mixes in a bid to increase renewable power generation while also moving away from subsidies. In 2018, for example, wind capacity increased by 22 GW y/y while solar expansions added 45 GW y/y.