We think that there is scope for JKM contracts for winter delivery to strengthen relative to the TTF. This is because of the possibility that South Korea may halt a substantial share of its coal-fired capacity this winter, boosting LNG demand y/y. JKM prices for winter delivery were already up sharply w/w on 16 September, but broadly tracked gains at the TTF. European gas hubs were supported by three risks—two supply-side and one demand-side—last week, which are likely to continue until further clarity on the issues emerges. Little support is likely to derive from the major disruption to Saudi oil production resulting from drone strikes on 14 September, although it will support oil-indexed contracts, widening their premium to LNG spot prices.
A potential y/y increase in South Korean power sector gas demand this winter would support the JKM relative to European hubs. South Korea’s National Council on Climate and Air Quality (NCCA) proposed last week to prevent up to 11 GW (30%) of Korea’s coal-fired fleet from operating this winter, which could boost gas demand y/y over December 2019-March 2020. The higher potential power sector gas demand from the cuts—up 4.2 bcm y/y—would only be partly offset by greater nuclear availability, reducing gas demand by 1.1 bcm y/y. The proposal is intended to curb fine dust emissions and is scheduled to be submitted in early October to the government for consideration.
We think this measure is likely to be adopted. The NCCA was set up in response to criticism of president Moon Jae-in’s handling of fine dust pollution and is a high-profile body under former UN Secretary General Ban Ki-moon. The national assembly in March designated fine dust pollution as a ‘social disaster’ and agreed to release emergency funds to counter the problem.
Keeping pace with Europe
The JKM winter 2019-20 prices were driven up in recent days, tracking the rally at European gas hubs. European prices rose on three factors that could potentially tighten the European supply-demand balance. Firstly, the Dutch government is discussing proposals to cut output from the Groningen field in the coming months faster than it had previously outlined. Secondly, Gazprom may struggle to reconfigure flows to Europe in the wake of renewed restrictions on its use of the 35 bcm/y OPAL pipeline. Thirdly, there is a renewed risk of a significant y/y rise in Northwest European gas-fired power demand coming from potential French nuclear outages to deal with fresh safety concerns.
Groningen low-calorific gas output could be cut to just 11.8 bcm for gas year 2019-20, which is down from the 17.9 bcm that we expect it to produce by the end of gas year 2018-19. This would boost demand for high-calorific supply for quality conversion. But nitrogen ballasting capacity to make replacement low-calorific supply may be insufficient to fully offset the loss of output, even with the addition of a new 0.5 bcm/yr blending facility in Germany early next year. The addition would allow for a reduction in Groningen output to 14 bcm, still well below output this gas year.
There is also potential for a substantial reduction in Russian supply this winter if Gazprom is restricted in its use of OPAL. Flows through the conduit—a German onshore continuation of Gazprom’s 55 bcm/y Nord Stream pipeline—started to fall from the start of the gas day on 14 September. One potential workaround for Gazprom to replace the lost flows through OPAL is to be reliant on higher flows through Ukraine, which puts additional pressure on Gazprom to agree a new transit agreement with Ukraine that will start from January. Transit talks brokered by the EU are due to take place on 19 September. But Gazprom may not have the physical flexibility to divert supply through its internal pipeline system towards its southern export routes to replace 100% of lost OPAL flows. Another potential workaround is to use its online sales to deliver to customers at the Greifswald entry point of the OPAL system. The maximum cut to Russian supply to the EU would be 9 bcm in October 2019-March 2020, from not replacing lost OPAL flows, but we expect that Gazprom will manage to make up for at least 5 bcm of the potential loss through its workarounds.
Disruptions to French nuclear capacity could boost EU gas demand significantly this winter, depending on the severity of issues uncovered by French nuclear safety regulator ASN. We see the potential cuts to winter nuclear generation translating into at most 10 bcm of additional y/y European gas demand, although much of this increase could already have come from gas displacing coal from the power generation mix because of significantly lower gas prices y/y. The decision on what happens next rests with the French nuclear regulator, and ASN has a track record of requiring EDF to undertake closures of plants to correct abnormalities with parts. The timeline for a decision is uncertain although we expect one within the next couple of weeks. The potential regulatory response is anything from an abrupt closure of all affected plants, which we assess to amount to just over 14 GW of capacity, to requiring a less time-intensive response that sees no plants go offline over the coming winter.
The three European risks added together would equate to around a 16 bcm y/y tightening of European supply-demand balances this winter if they all materialise. This is just over the additional 15 bcm y/y that we expect Europe to have in underground storage going into the October 2019-March 2020 heating season, including 3 bcm of gas held in Ukraine’s customs warehouse. And we expect a further 12 bcm y/y of additional LNG supply to Europe this winter. A failure of some of the bigger risks to materialise should lead to a pricing down of the TTF, which should take the JKM with it.
Saudi disruption supports oil-indexed gas and fuel oil prices
The disruption to Saudi crude and products production following drone strikes on 14 September caused a substantial rally in crude and products prices. This will translate into higher oil-indexed pipeline and LNG prices if sustained over the coming weeks, leaving firms with a higher share of supply bought on this basis less competitive against firms sourcing more supply on a spot or European hub-linked basis. Oil-indexed LNG with a 12% slope for delivery in November was at 7.90 $/mmbtu on 16 September, which was already well above the JKM Nov-19 price of 6.54 $/mmbtu on the same day. Meanwhile a sustained rise in fuel oil prices would make it even less competitive against LNG in global power generation, encouraging generators to increase their LNG imports in the short term.
|Fig 1: JKM near-curve prices, $/mmbtu||Fig 2: JKM M+2-TTF M+1 spreads, $/mmbtu|
|Source: CME, Energy Aspects||Source: CME, Energy Aspects|