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The international natural gas market

04.12.2012

GASInform

Author: Yu. Kuznichenkov

Over the past 20 years the share of natural gas in the global energy balance has increased from 19% to 24%. According to the forecasts of some experts, it will continue to increase gradually up to 26-28% by 2020 and 30% by 2050.

However, it is necessary to consider that the scale and structure of the energy resources consumption in the world economy with the lapse of time undergo the significant changes under the influence of supply and demand.

The demand forms The proposal

Among the factors of demand for natural gas the determining are the paces of the global economy and its energy-intensive sectors — electrical energy industry, chemical industry, metallurgical industry and some others. Also the demand is affected by the consumption of services, public sector and households, and in these segments of the economy multidirectional effect of many factors takes place. On the one hand, the new energy-saving technologies and products appearing on the market lower the demand for natural gas, on the other hand, increasing the power-to-service, public sector and households leads to its growth.

The structural changes in the energy consumption directed at increasing the share of natural gas are also associated with the changes in the energy resources supply. Along with the traditional energy resources (oil, gas, coal) in the recent years the market has a wide range of non-traditional forms of energy such as coal bed methane, associated oil and shale gas.

In 2010 the North American and European gas consumption closed to the record levels of the previous years. Of course, in many cases the cold snap helped the gas producers but the main reason for the growth is still the economic recovery and the demand for gas as a fuel in the short and long-term outlook. The Asian market leads in the process of gas consumption reconstruction after the financial crisis.

The main gas consumers are the industrialized countries of Europe, America and Asia: about 70% goes to these regions. The projections show that the greatest increase in gas consumption is expected on the market of the APR and the Middle East — 3-4% per year. In contrast, the market growth forecast in the North America and Europe will be the smallest, at around 0.4-0.8% per year.

For Russia gas is the main fuel: its share in the primary energy consumption is 55.2%, which by the world standards is very much: at least among the developed countries there is no larger proportion of gas in the fuel balance, including such not deprived with gas powers as the UK (where the share of gas is 40%), the Netherlands (38%), Canada (27%), U.S. (26%) and Norway (only 9% due to the dominance of hydropower).

Yet, against such countries as Iran, where gas also produces 55% of all primary energy, or Algeria, where its share is 60%, Russia looks quite organic. And if compared with the UAE, Qatar, Turkmenistan, Azerbaijan, Uzbekistan and Belarus, it's impossible to say that everything is heated by gas in Russia.

However, the consumption of natural gas in Russia is giant. Suffice it to say that it is equal to consumption in Germany, France, Italy, Japan, China and India combined. Annually Russia burns and processes 420 billion cubic meters of gas, yielding on this parameter only the U.S.

The exporters and importers

The natural gas market, in fact, consists of two markets: the market of pipeline gas and the market of liquefied natural gas (LNG). The main gas exporters are the five regions, and the major gas importers — six or seven countries.

The main and largest pipeline gas exporter now is Russia, providing more than 36% of world exports. Five countries (Canada, Netherlands, Norway, Russia and Algeria) supply the world market with more than 94% of natural gas. On the other hand, five other countries (USA, Belgium, France,Germany and Italy) import about 72% of gas supplied to the world market.

The major exporters in the LNG market are Qatar, Algeria, Indonesia and Malaysia, Australia and Russia, providing 71% of world exports. At the same time, only two countries — Japan and South Korea — import 71% of the LNG market supply. Overall, the world LNG market is 75% the APR market. First of all, it should be noted that in contrast to the oil market, which can rightly be called the world, the natural gas markets possess a quite distinct regional character.

It's safe to say about the American, European and Asian international markets and the domestic market of Russia and CIS countries.

The dynamics of the world gas prices

The world prices for natural gas vary depending the regional characteristics and circumstances, but the common gas price used as a reference when entering into financial contracts is the price used on the New York Mercantile Exchange (NYMEX). Its official name is Henry Hub Natural Gas. The price of this contract is based on the supply from Henry Hub natural gas storage in Louisiana.

It should also be noted that the single world natural gas market itself has not yet been formed. The major obstacles to the creation of the global gas system are associated with the large distances of gas supply and a high share of transport infrastructure in the natural gas economic indicators. Thus, in the cost of natural gas delivered to Western Europe from Norway the share of transmission and distribution networks is up to 70% of all costs. Under the comparable transport capacities the cost of gas transportation due to the less flux density is almost two times higher than that of oil. Because of this feature the price in different regions varies.

The world natural gas prices are rising because of the increasing demand from Japan, where the earthquake has led to the suspension of 11 nuclear reactors.

In Britain, gas contracts with the gas supply went up by 7.4% — up to 74 pence per therm. There has been no such a sharp jump since November 2008. In New York, the April contracts for gas went up by 3.8% — up to $ 4.037 per million Btu.

After the earthquake and tsunami in Japan the demand for energy resources grew, which led to the increase in the gas spot prices. Japan is the world's largest consumer of LNG. The country accounted for almost 35% of total gas imports in 2009.

Russia sells gas almost exclusively on long-term contracts (up to 30 years or more, with hard-agreed volumes). And for a long time this mechanism — at least in Europe — has had no alternative. But now Europe is getting the increasing volumes on the spot market (the market for immediate goods delivery and virtually unlimited volumes).

Trading on the spot market does not allow the manufacturers to plan their production and profit margins. This situation is particularly dangerous now that the gas producers have engaged in the development of Eastern Siberia and the ocean shelves. The cost of production continues to rise in price, and before investing in the new fields, the manufacturer must be sure that he will be guaranteed a certain amount of sales over a long time.

It is clear that the spot market, in contrast to the market of long-term contracts, cannot give such guarantees. The consequence of this is the reduction of works on the hard-to-reach gas bearing areas. Passion for the spot market could harm Europe's energy security. On the other hand, the consumers can also be understood. In the past year the prices for long-term contracts were higher than the spot ones by 100-200 US dollars. There is another factor of the consumers' interest rise in the spot market — the development of the liquefied gas market and the lowering of the overhead costs in its production. In these circumstances, the Russian gasmen will have to admit the competitive LNG market as a marker for gas prices. Soon 15% of Russian gas will be supplied at the prices linked to the spot market.

Gas market situation forecast

Discussing about the gas prospects in the global energy balance, it can be noted that the gas now conquers its positions and will stay on them for several decades. Transition from oil to gas balance is to come.

At the same time, almost all experts say that the gas market in the nearest future will undergo serious changes. The shale and liquefied gas will play an important role in it.

Analyzing the patent applications filed in the recent years, the following conclusion can be made: "If in 15 years the patents turn to technology, the power consumption of the traditional sector will grow by 9%, of alternative energy — by 12%, and of the liquefied natural gas (LNG) — by 30%" (2008 taken as a starting point).

The large-scale investments made in the period of high gas prices allowed to bring to the world market the additional LNG volumes: the supply growth in 2009 was 16%. According to the BP forecasts, LNG production could almost double by 2020 reaching 476 billion cubic meters. It is estimated by CERA (Cambridge Energy Research Associates) that the share of LNG in the European market could grow from 11% in 2008 to 36% in 2035.

Coming of shale gas to the global balance will seriously affect the Russian gas companies. Projects to build the capacities for LNG in the Yamal and Shtokman fields provide the delivery of up to 80% of liquefied gas to USA. But now the outlook for gas imports to the United States have undergone a substantial correction, Yamal and Shtokman gas may be unclaimed, or its price will be lower than the predicted values.

It should be noted that some experts doubt that shale gas will play such a notable role in the global hydrocarbon markets. In particular, for the formation of shale gas fields a rare combination of natural conditions is required. So there are cannot be many of these fields in the world. And those that exist are "short-lived". In the first year of production volume in the well falls to 70% and in 10-12 years the well is out of operation. Shale gas won't be on the market in the large volumes for long. Therefore, the industry of liquefied natural gas in Russia should be developed.

The increasing global demand for natural gas

By 2035 the demand for gas will be 5.132 trln. cub. m. against 3.1 trln. cub. m. for 2008. Over 80% of this growth will come for the countries outside the Organization for Economic Cooperation and Development. By 2035 the demand for natural gas will be equal to the European Union indicator. Comparable to China's demand will appear in the Middle East.

The IEA estimates, that Russia in 2035 will be the largest natural gas producer (881 billion cubic meters compared to 662 billion cubic meters in 2010). Gas consumption in Russia will be 528 billion cubic meters in 2035 (453 billion in 2010). In 2035 over 90% of Russia's gas will be produced from the conventional sources. Globally, about 40% of demand in 2035 will be met by the unconventional gas supply, according to the IEA.

At the same time currently it is a change time for the Russian gas. Thus, gross gas production in Russia in the past year fell by 12.4%, including Gazprom cut production by 16%. Russia has not witnessed such a thing for 25 years. The crisis has reduced the demand on world markets, particularly in Europe, but it doesn't explain everything, because in the USA gas production in the last year grew. The main reason is the fundamental change in the global natural gas markets.

In the recent years it has become clear that the stability of the natural gas supply and price based on the long-term contracts does not allow the energy sector to adjust effectively to the changes in the world economy, and the gas business is too dependent on the geopolitical aspects. The most important and, until recently, still rather isolated than connected to each other, the USA and the EU markets have started to change their configuration noticeably, the interdependence between them began to grow. The market receives new gas products, transport routes vary. The gas transportation schemes change rapidly too.

The pipeline deliveries are replaced by the tanker LNG transportation. If previously the major geopolitical gas industry challenges had been the disagreements with the transit countries on the transit and price of the pipeline gas released for domestic consumption in these countries, now, when the contract prices and the terms of the contract itself can be affected by the spot LNG deliveries, the geopolitical relationships have become more complex. That is the old market — a seller's market — is gone. For the first time in the decades the European gas imports fell, there was a reduction of pipeline gas purchases. Gazprom's gas supplies to the EU in the first quarter of 2010 decreased by 39%. The share of the Russian company in the EU market fell by 4-5%, due to the energy conservation policy pursued by the EU and the emergence of the new sources of natural gas in the global market.

Where will the "swing" rock to?

The "consumer-producer" swing in natural gas trading is now shifted towards the consumer, the producer's challenge is to respond adequately to the new conditions of the gas market, to fully engage in it and to restore the energy export potential of the country. To do this, first of all, it is necessary to recognize that self-regulation works even on this, as it would seem, naturally monopolistic market.

Finally, the changes at the global gas markets require a fundamental revision of the Russian energy policy. Indeed, the possibilities for extensive development and mechanical distribution of the FEC structures and traditional technologies on all the new fields and areas of consumption are reducing. The emphasis on the development of new technologies that require a more active partnership with Western companies is needed. And the gas itself is transformed from a monopolistic good to the world market good, and therefore the investment policy should be a tool of cooperation with the neighboring countries and the consumer countries.

A major change in the balance of supply and demand will inevitably affect the prices. An example of this is the United States, where since the beginning of the active shale gas production the price has fallen three times, falling almost to the prime cost — from around 212 dollars per thousand cubic meters to 70 dollars. "The sharp rise in natural gas production has already led to a collapse in prices to historic lows, making the development of many fields economically unattractive — has told DW Tatiana Mitrova, the head of the "World Energy" department of "Skolkovo" Business School Energy Center.

Today in the USA mainly small independent companies are engaged in the shale business. Fall in the average gas price and the complexity of the production often affect the profitability of their business. However, many companies continue drilling. "The total shale gas production share in the USA is growing, which means that there is an economic meaning in this" — says Tatiana Mitrova. Mike Wood, when asked by DW, added that "not all companies in the USA cope with profitability maintaining, but it's a natural 'Darwinian' process." The market, he said, is still in motion, but the prices are more likely to remain low.

In Europe, of course, it did not go unnoticed that the gas price in the USA is almost six times lower than the price that it pays for the long-term contracts to "Gazpro– –m" (the average price will reach $415 per thousand cubic meters). Hence — an active search for the opportunities to diversify imports and press the Russian gas monopolies — either through courts or through the regulatory agencies such as the European Commission's anti-monopoly committee.

Gazprom is so far looking at this shale race with a condescending detachment. Earlier this year, the deputy president of the company Alexander Medvedev said: "In Russia, we put the production of the shale gas in the back burner and maybe 50-70 years from now will be back again to this." According to him, the traditional "Gazprom" reserves are ten times more effective than the development of the shale gas reserves.

Meanwhile, by refusing to participate in the shale projects, the company risks to lose the current market at the same time. A serious alarm bell was the actual failure of Shtokman project. "The first results of the 'shale revolution' for Russia is the transition of North America from a state of power shortage to the energy surplus state," says the "Skolkovo" expert Tatiana Mitrova. "Accordingly, the need in the projects focused on the LNG supply to the U.S. market is gone, and Shtokman is the most striking example to this." According to her, shale gas will inevitably lead to a competition rise in the export markets.


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