• Natural Gas News

    Oil Indexation Feeds through into LNG: IEA


Oil prices have since bounced a little but the IEA and Rystad both see a tough few years for oil-indexed LNG prices.

by: Dalga Khatinoglu

Posted in:

Natural Gas & LNG News, World, Corporate, Exploration & Production, Market News

Oil Indexation Feeds through into LNG: IEA

The longer that oil costs around $25/barrel, the harder international gas suppliers will struggle to cover their operating costs, and the depressed spot market for gas will not provide any relief, the International Energy Agency said April 1.

Oil indexation has provided protection to LNG producers, as it covers the majority of the LNG sold on long-term contracts, while the oversupply has hammered spot prices.

The report says about 5mn b/d of oil no longer fetches enough to cover the production cost, while some of the more robust producers may continue pumping oil even if they are losing money. This could happen if the costs of shutting down production are higher than the operating losses from keeping the oil flowing.

If oil falls to $15/b, a sixth of global supplies could become uneconomic, and much of that is produced in North America, IEA says. With 3bn people around the world under some form of lockdown as well as a rapid build-up of oil stocks, the price is expected to decline further. 

However at time of press, dated Brent was up 10.7% at $27.4/b, while West Texas Intermediate (WTI) was 10% higher at $22.4/b. The rebound came after US president, Donald Trump, expressed optimism that Russia and Saudi Arabia would be able to “work it out” having talked to their leaders, averting a supply war. But markets were likely more encouraged by statements by officials in Moscow that the country would not be ramping up production because the move did not make sense in current market conditions. China has also begun buying up oil to build up its strategic reserves while prices are low.

The IEA said that one of the clearest spillover effects of oil price plunge is on natural gas because of the links between oil and gas prices that remain in many long-term gas supply contracts: suppliers with the highest short-term costs of production and those who rely on spot sales are the most vulnerable.

Given the typical six-nine months' lag in the translation of the oil price into the gas price, it is expected the price range will decline from $7.5-11.1/mn Btu in Q1 2020 to $4-5.5/mn Btu in the Q3, assuming $25/b crude. 

Spot markets have already been affected as prices in Asian and European markets reached $2.7-4.00/mn Btu and $2.1-3.54/mn Btu in Q1.

On March 31, energy intelligence firm, Kpler reported that the current aggregated onshore crude oil inventories and oil-on-water are holding at 4.506bn b, 91mn b higher than at the end of February and beating the last record, set in June last year.

Rystad lowers outlook for prices

Since February, Norwegian energy consultancy Rystad has lowered its forecast of Dutch hub prices by about a seventh for this year, to $3.2/mn Btu, it said April 2. It has also trimmed its forecast for spot deliveries in Asia, but keeps them at a premium to Europe at $3.80/mn Btu. "The lower forecast is based on the weaker demand seen globally throughout the year as a result of the lower commercial and industrial activity, which will exacerbate the looseness in the market," it said.

Forecasts for the next two years have also been revised down on lower economic growth and ample LNG supplies. Given the six-month lag in oil-indexation in most contracts, the oil-indexed price is expected to reach the bottom in 2021 at a level of $5.68/mn Btu, which is $1.05/mn Btu below its previous forecast (-16%), although higher than the IEA's forecast for Q3 this year (see above). It also sees US Henry Hub gas prices  below $2.50/mn Btu for a protracted period, averaging $1.94/mn Btu in 2020 and at $2.43/mn Btu next year.

As a result of the lower demand and the low prices, exporters have had to adjust their LNG production, and the US is among the countries that will see the biggest impact on LNG exports, Rystad said. The feedgas volume flowing into liquefaction plants on the US Gulf Coast has slowed during the last two months, with some redirected to domestic consumption instead, boosting coal-to-gas switching in the power sector.

Feedgas for LNG terminals reached a peak of 9.5bn ft³/day January 31 and has been on a declining trend since, averaging at 7.9bn ft³/d in March. Feedgas into Sabine Pass LNG was flowing at 4.2bn ft³/d January 31 to just 1.743bn ft³ March 17, Rystad said.