The war in Ukraine has resulted in a structural change in global LNG markets.
The EU now needs 140 million tonnes of LNG imports annually as it avoids use of Russian gas — around twice the bloc’s typical import levels, according to Shell plc’s latest LNG outlook.
Europe is no longer a balancing market, absorbing LNG not needed elsewhere in the world — it has joined northeast Asia as a premium market willing to pay premium prices to get the LNG it needs.
This new dynamic means going forward LNG buyers need to think very carefully about buying strategies to avoid getting caught out by high prices.
If you are a buyer today you have the choice between buying from: the U.S. on a Henry Hub index and a FOB basis (meaning you can redirect the cargo, should you wish); from Qatar, on a more traditional oil index (often with a clause which fixes the cargo’s destination); or on the spot market.
“In the very volatile market conditions we’re seeing today the consequences of getting that decision wrong could be quite significant,” said Steve Hill, executive vice-president at Shell.
JKM prices — the Platts spot market price for delivery in Northeast Asia — moved in a range from US$25/mmBtu to $50/mmBtu throughout 2022, peaking in August before falling, and demonstrating the unprecedented volatility in the market.
Avoiding price risk
Normally such volatility would mean new buyers — many of whom are European — would look to oil-linked, long-term contracts from the Middle East. Announcements of these types of contracts did start to materialize last year, with a conglomerate of German importers signing a 15-year deal in November 2022 to import two million tonnes of LNG annually, delivered by U.S.-based firm ConocoPhillips.
EU importers also now have the option to charter their own vessels and buy FOB cargoes from the U.S. — as RWE has decided to do in its 2.25 million tonnes per year deal with Sempra Infrastructure from the planned Port Arthur terminal in Texas.
But in 2022, European importers have only signed long-term contracts for a small percentage of that additional 140 million tonnes of structural demand laid out by Shell.
Portfolio players were responsible for around half of long-term SPA signings last year.
This is, at least partly, because buyers are unwilling to lock into long-term contracts in a world where hydrocarbon price volatility and domestic climate targets make future energy demand scenarios highly unpredictable.
It is also partly because they can buy from portfolio players like Shell, Chevron Corporation and Gunvor Group. These portfolio players were responsible for just under 50 per cent of long-term contracts signed in 2022, according to Shell, far more than the share accounted for by EU importers.
Portfolio players buy from the U.S. on a long-term Henry Hub linked basis and then sell cargoes into the spot market, or via their own shorter-term contracts with national importers. Shell, Chevron and Gunvor all struck deals last year to buy LNG volumes from U.S. terminals at Henry Hub linked prices.
These portfolio players are essentially using their capacity to absorb risk, with the possibility of making excellent returns from large spreads between long-term Henry Hub linked deals and spot prices. Some volumes from U.S. projects are also being “self-lifted” by equity holders in those projects acting as portfolio players, according to the International Gas Union’s (IGU) annual Wholesale Gas Price Survey.
Even at a US$6/mmBtu Henry Hub price, with $3/mmBtu liquefaction fees and $1/mmBtu shipping costs to Europe, a portfolio player could make healthy profits on a spot cargo to Europe sold at $20/mmBtu — the price as assessed by Platts in January. But the risks are real — in the short-term from import terminal congestion and in the longer-term from demand destruction.
Traditionally U.S. producers have sold on a Henry Hub basis. But Cheniere Energy Inc. has pioneered a new model that allows North American producers to gain exposure to the risks and rewards of global LNG gas markets.
These Integrated Production Marketing (IPM) agreements see Cheniere buy gas at a price equal to a global LNG price such as the JKM, minus a fixed liquefaction fee, shipping, and other costs. This enables Cheniere to shift some of its commodity price risk to the producer and the producer to benefit from higher global gas prices without having to build an LNG liquefaction plant.
Cheniere has signed deals with U.S. gas producers Apache Corporation and EOG Resources, Inc., Canadian producer Tourmaline Oil Corp. and, more recently, ARC Resources Ltd.
Some producers are looking for even more exposure. EQT Corporation, the biggest U.S. upstream gas producer, said last year it wants to take an equity stake in a U.S. LNG export project. If enacted, this would demonstrate a new type of strategy for North American upstream producers to profit from high global LNG prices on a long-term basis.