Lignite power plants are increasingly getting priced out of the generation stack, which could weigh on EUA demand this year. We have frequently talked about the coal-to-gas switch, which is occurring because of low prevailing gas prices in the EU, but we had expected less lignite-to-gas switching. However, German lignite generation in H1 19 posted the lowest half year this decade, falling by 13.8 TWh y/y, according to Fraunhofer data. The low lignite numbers were driven by a number of factors. There was a fall in RWE’s generation due to mining restrictions at the Hambach Forest affecting a number of the company’s plants (a combined 7 GW at Niederaussem and Neurath), which RWE forecast would lead to an annual reduction in its production by around 10 TWh y/y. Also, while lignite costs are largely seen as fixed by the utilities, the low cost of gas and the relatively high price of carbon mean that more-efficient gas-fired plants (at 50% efficient) are in the money against older lignite plants (35% efficient), while a 29 €/t EUA price would get a 45% efficient gas plant into merit against that older lignite plant based on prompt gas prices at the start of July. We are now even starting to see some lignite shut-ins with EnBW having put its 900 MW Lippendorf S power plant into standby mode on 15 June. The company announced that the decision was exclusively market-driven as current ‘framework conditions’ make operating the plant uneconomic and the plant would stay offline until those market conditions change. The EnBW plant is somewhat unusual in that it shares a site with LEAG’s 0.9 GW Lippendorf R plant and buys the lignite from LEAG subsidiary MIBRAG. EnBW could therefore view the lignite costs as variable rather than the fixed. The softness in German lignite and hard coal power generation in H1 19 will have reduced EU ETS emissions by 22 Mt y/y, dampening compliance buying.
|Fig 1: EUA daily moves, €/t||Fig 2: German monthly power generation, TWh|
|Source: Refinitiv, Energy Aspects||Source: Fraunhofer ISE, Energy Aspects|
EU price action
EUAs stayed at the top of their recent price range last week, but failure to go past technical resistance at 27.85 €/t in the early part of the week meant prices subsequently dipped to close the week largely unchanged w/w at 26.4 €/t. The relative strength of EUA prices last week did come with a reasonably high 16 Mt of EUAs being offered in the primary auctions. Auction volumes drop this week to 11.5 Mt. Still, given the failure to break the upside resistance last week, we think the market could likely ease back into the middle of its persistent 23.4-27.85 €/t range. Power fundamentals look weak, with the hot end to June now being replaced with milder temperatures, at least for the coming week. Nordic and Alpine (Swiss, Austrian) hydro balances still look very healthy and gas prices still look very weak as part of a need to encourage as much gas demand as possible. IHS Markit reported very poor EU industrial production numbers for the energy-intensive sectors in June. The EU metals and mining sector posted another sharp drop in output in June, contracting at the fastest rate since November 2012. Sharp y/y drops in output were also seen in the chemicals, and pulp and paper sectors, resulting in the strongest overall decline in basic materials production since April 2009, around the height of the financial crisis. Brexit remains an issue at the margins. The Conservative Party leadership contest will conclude in two weeks, with a new leader being announced between 22-24 July. The main bullish EUA price driver in the short term will be the usual seasonal dip in auction sales in August, during which EUAs offered will drop by 36.6 Mt m/m. We expect prices will remain in the recent range this week given the mix of bearish and bullish signals.