You can’t miss it!

Weekly. Free. Your Top 10 Sustainability & Energy Posts.

Your name

Your email

You can unsubscribe at any time (read our privacy policy.)

Join us

LNG volatility exposes fragility of global energy systems
LNG volatility exposes fragility of global energy systems
Shakil Begg
By Shakil Begg
Jan 24 2021 · 5 min read

Energy Voices
Oil & Gas · Gas · LNG

A bitter cold spell in North Asia coupled with endemic supply shortages in the region saw Liquefied Natural Gas (LNG) prices almost tripling in early January versus December levels. According to the Platts JKM benchmark, spot LNG in Asia was assessed at $32.494/mmBtu on 12 Jan, an all-time record high. Prices have retraced since, with the JKM March contract marked at $8.875/mmBtu on 22 Jan.

The reasons for the dramatic rise in prices have been well documented in recent weeks: namely supply disruptions in Malaysia, constraints in the Panama canal delaying US exports through the Pacific, and higher heating demand in Japan, South Korea and China. Colder temperatures in the region have accelerated inventory withdrawals leading to frenetic trading activity in the spot market. South Asian markets such as Pakistan, Bangladesh and India struggled to secure cargoes during the price squeeze, forcing some to ration gas and seek cheaper alternative fuels like LPG and fuel oil.

But as many market observers would tell you, signs of market tightness were apparent as early as autumn. Outages were seen at LNG plants in Norway and the US last September and the early part of October, the former due to a fire outbreak at the Hammerfest facility and nationwide oil worker strikes, while Hurricanes Laura and Delta disrupted exports from the US Gulf. Persistent supply issues in Nigeria, Qatar, Indonesia and Australia have also been noted in recent months.

Initial forecasts for a colder winter in north Asia prompted notable buying activity in October. But there is an argument (Reuters) to suggest buyers may have become complacent and misjudged their fuel needs in the weeks that followed. By some estimations output has recovered somewhat, with cargoes re-directed from Europe to Asia, as spot demand for LNG skyrocketed. Europe, which itself has experienced a relatively colder winter thus far has managed to cope with piped continental gas, although local hub prices have also been supported by LNG demand elsewhere.

Important questions over pricing

Buyers chastened by the recent bout of volatility in LNG may reconsider how they structure long-term supply contracts in the future. Hybrid gas contracts tied to a mixture of regional gas prices may go out of favour, while oil-linked structures – typically linked to Brent crude with a three to six month lag – could remain popular. They currently account for as much as two-thirds of contracted Asian LNG supply.

Importers may also question how much exposure they would like to retain to the spot market, given the issues faced recently in obtaining necessary supplies. Energy dependence remains a key concern as Asia leads the world economy out of recession.

However, such decisions could be influenced by the trajectory of oil going forward. If LNG price volatility is expected to weaken relative to oil in the near term, there may be some reticence to link substantial contracted volumes to oil, especially if oil prices rise considerably. The advantages of such long-term deals for buyers will inevitably diminish, particularly if gas market fundamentals weaken. Participants have recently been considering shorter flexible supply deals tied to a basket of crudes or natural gas futures as a possible workaround.

In a rudimentary analysis of front month Brent (ICE Crude Oil) and JKM (CME LNG) we can see that LNG’s volatility (annualized realized standard deviation) consistently exceeds that of oil during the last 5 years (with one or two notable exceptions). When comparing spot Asian LNG assessments to crude, the average volatility is over two and half times higher. This is based on simple calculations that track average month to month movements, rather than intra-month variations – important for indexation purposes.

Volatility is a feature of seasonal commodities, particular those linked to electricity markets. Therefore, a more sustainable solution may be diversification.

Energy systems under strain

The surge in gas demand in Asia is indicative of the continent’s dependence on the fuel for power generation. South Korean demand for LNG had risen almost 5% year-on-year last September, partly due its nuclear reactors being taken offline because of typhoon activity. But the country has also pledged to gradually phase out the number of its nuclear reactors to 14 units by 2038, in response to the 2011 Fukushima accident, even as it constructs four new reactors. It plans to replace the power output from decommissioned nuclear with renewables.

The country is not alone. Japan is reducing its reliance on nuclear and is targeting to generate just 20% of its power from this source by 2030, compared to 30% in 2011. While, Germany, Belgium, Taiwan and Switzerland plan to shut down all reactors before 2030. Renewables such as solar and wind are expected to fill the gap, alongside traditional thermal sources. These moves have resulted in nuclear’s share of total electricity generation globally to reduce from around 17% in 2000 to just over 10% in 2019.

The problem with replacing large capacity with most renewable resources, is the intermittent nature of supply. The power grid requires greater management and back-up capacity (often thermal) to fill radical declines in renewable output.

According to a study by GlobalData, total installed nuclear capacity is set to increase from 404.7 GW in 2019 to almost 500 GW in 2030, in spite of recent shutdowns. Much of the increase is expected to come from China, which will build around 80 GW over the next 10 years.

The expansion is needed. In China, the swift transition from coal to gas within municipal heating systems together with the sharp rise in industrial power consumption has left it exposed to abnormal events. As power consumption continues to climb rapidly across all sectors, its energy system increasingly relies on thermal and renewable sources during the winter, when hydroelectric output typically falls.

Across Asia, rising household consumption will continue to strain electricity systems during peak periods. Insufficient gas storage capacity within the region has left local systems inflexible to deal with a sudden increase in demand or an interruption in supplies.

Nuclear technology has advanced in recent years, and more efficient and safer reactors can now be deployed at scale. Small modular reactors (SMR) and fourth generation advanced modular reactors (AMR) can potentially be built on a production line and transported by road, yielding substantial cost savings.

Given ambitious emission reduction targets, investment in logistical infrastructure to support dirtier thermal power generation may face significant opposition in the years ahead. Nuclear power’s clean credentials and the availability of privately funded cost-efficient reactors could help plug the output gap, which would otherwise be difficult to meet, with just renewables. The tendency for price spikes in fossil fuels may yet prompt more countries to obtain energy independence and diversification through nuclear, as the world searches for a climate friendly solution to energy supply.

Energy Voices is a democratic space presenting the thoughts and opinions of leading Energy & Sustainability writers, their opinions do not necessarily represent those of illuminem.

Did you enjoy this energy voice? Support us by sharing this article!

Shakil Begg
About the author

Shakil Begg is an Oil Market Strategist with more than 10 years experience analysing the energy markets. Most recently, he worked at J.P. Morgan, and prior to that, led the Oil Research teams globally at Thomson Reuters.

Other Energy Voices

Weekly Highlights | From the promising mines on the moon to Coldplay’s alledged Greenwashing
illuminem
illuminem
May 20 2022
Weekly Highlights | From the promising mines on the moon to Coldplay’s alledged Greenwashing
Aviation will be disrupted from below by electric regional air mobility
Michael Barnard
Michael Barnard
May 18 2022
Aviation will be disrupted from below by electric regional air mobility