Lourdes Rodríguez, Executive Director, Trading, Gas & Power Division at Repsol, on the Dichotomy between flexibility and the need for long-term commitments to secure financing
In 2017 global LNG trade recorded its highest annual growth rate (+10 per cent) since 2010, reaching approximately 297 Mtons. It was the third consecutive year of growth and expectations of an LNG surplus did not materialise despite large production additions in Australia, the US and Russia. Demand was much more elastic due to lower gas and oil prices than expected, and increasing environmental concerns regarding climate change and air pollution boosted consumption in some countries like China.
The LNG market has proven that it is ready to adapt to changes and react to signals. On one hand the market is changing to provide more flexibility, shorter contracts and price diversification and on the other hand, banks and financial institutions still request long-term commitments to allow LNG project sanctioning.
The long awaited LNG oversupply has not materialised and the market is already forecasting a possible shortage post 2020 if new projects are not sanctioned. How can buyers and producers both meet their needs in order to avoid that shortage?
The current contracting and pricing environment is challenging for new supply developments. One FID (final investment decision) was taken in 2017 (Coral FLNG) and another so far in 2018 (Corpus Christi T3) both with distinctive characteristics, but both took this decision after securing long-term LNG commitments (20 years). LNG projects are capital intensive and sanctioning needs financing which can hardly be obtained without long-term commitments. But, at the same time, in the last decade, the LNG market has been able to develop a whole secondary market where LNG changes ownership and players take different roles in order to provide flexibility.
This secondary market, in which portfolios have played a key role, is more efficient at fulfilling buyers´ needs: shorter term contracts, spot supply, seasonal variations, optionality, diversions, etc.
Does this secondary market and the growth in short term and spot trading mean that LNG is more liquid? Can we talk of LNG as a commodity?
It is undeniable that LNG is more flexible today than 10 years ago. The traditional business model had quite rigid contract structures allowing only for point to point trade, for more than 20 years, with high penalties (take-or-pay) and even with highly categorised types of sellers (project developers) and buyers (utilities or gas consumers) and mostly linked to oil.
Today, the market is on its way to offer almost a tailor-made solution to each player in the market: no destination clauses or diversions, volume flexibility depending on the buyer’s demand profile, volume optionality, different price indexations and shorter duration. The market has also started to use tenders, both to sell and to buy, which is providing more flexibility and also transparency to the market as many of them have public price signals. But despite all these positive changes the LNG market still cannot be considered a liquid one. Liquidity requires large volumes to be traded and changing hands almost immediately and LNG spot trading only accounted for 56m tons in 2017 (roughly 19 per cent of the LNG trade). Liquidity also requires a universally accepted price benchmark, like Brent for the oil market.
Could current existing regional price benchmarks like Henry Hub, NBP or TTF be used as a global LNG spot reference?
These indexes are commonly accepted references at their gas markets and have developed to be very liquid and, of course, they could become a benchmark for LNG if players regarded them as global references for LNG trade. But the fact is that those indexes are all references for the Atlantic basin, representing and driven by market fundamentals which are very specific to their regions.
The LNG market is, and will be, dominated by Asia where 70-80 per cent of the demand is. Asian buyers are trying to replace oil linkage by references such as the JKM (Japan Korea Marker) but it still lacks sufficient transparency, as it is a daily assessment produced by price-reporting agency S&P Global Platts. There are still many concerns regarding whether these price points reflect real market fundamentals. In the last months, the decision to expand Platts markets-on-close (MOC) assessment process to include LNG seems to be positive as it might enhance transparency and facilitate trading. Also, the emergence of “paper” hedging tools like JKM Swaps that have jumped more than five-fold this year, will fulfil the needs of market players willing to manage price risk.