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Though most eyes have been focused on falling oil prices, with Brent crude now sitting at about $51 per barrel, an overlooked trend happening concurrently has been falling liquefied natural gas prices, particularly in East Asia, the world's largest LNG market. Platts' Japan Korea Marker, the spot market pricing benchmark, ended last week at $10 per mmbtu for LNG being delivered in February despite being in the heart of winter, when heating homes typically causes prices to spike.
Though the spot market is relatively small in Asia relative to long-term contracts, it serves as a useful indicator of where the market may be heading in the future. Long-term contracts are almost exclusively indexed to oil prices. Consequently, falling oil prices will invariably lead to falling contracted LNG prices to complement those found on that spot market. Should LNG and oil prices remain at these levels, there will be significant impacts on future and prospective LNG export countries attempting to squeeze their way into a tight market, such as the United States.
A number of factors over the past decade have seen the Asian LNG market diverge from the rest of the world in terms of prices. Rapid development of North American shale has helped keep U.S. natural gas prices at a minimum, and natural gas markets in Europe are slowly transitioning to gas on gas pricing as interconnections between different countries and producers develop. East Asia's fragmented geography and distance from other markets, however, have not undergone a similar transition at the same rate. As a result, as oil prices rose to north of $100, LNG prices rose in tandem. Now there are multiple pressures dragging down Asian prices. First, oil prices are declining, and over time they will take contracted LNG prices with them. Second, industrial demand for the fuel itself has waned as Japan, the world's largest LNG importer, has limped through the last three-fourths of 2014 and falling oil prices actually made burning oil preferable to burning natural gas in some of Japan's power plants.
Much like oil prices, there is reason to believe that natural gas prices in Asia will not return to previous levels soon, primarily because of oil prices and new supplies coming online. On Jan. 5, Australia's Queensland Curtis LNG exported its first cargo. It is the first of seven Australian LNG terminals coming online between now and 2017 that will add roughly 86 billion cubic meters of LNG capacity to the country, potentially positioning the country to overtake Qatar as the world's largest LNG exporter. Even outside of the LNG market, China signed a deal for 36 billion cubic meters per year with Russia last summer at about $9.90 per mmbtu before agreeing to a second deal for 30 billion cubic meters in November. With the amount of LNG coming online quickly and some of China's demand being supplied by Central Asia and Russia, there is reason to believe that this could be the new normal for natural gas prices.
Of course, Australia is not the only country where energy companies are eying increased LNG exports. The United States, Canada, Mozambique, Tanzania and to a certain extent Russia are all looking at large-scale LNG projects that are largely predicated on finding room in Asia's natural gas market. However, should prices remain at $10 or even potentially fall, it will increase the competition between proposed projects that can undercut one another. All of these projects are at the critical point where an investment decision is imminent in order to meet desired timelines, but if the next couple of years remain turbulent in Asia's natural gas market, many of the projects with weaker profitability will get shelved or canceled.
This market leaves Australia in a precarious position. Australia's LNG projects have not been without problems, and several have seen massive cost overruns, such as Chevron's Gorgon LNG, whose price tag has risen from an original $37 billion to an estimated $54 billion. Even those that have maintained their budget have been relatively expensive. However, unlike the projects being proposed elsewhere, the capital investment in building the facilities has been made. In a sense, Australia will rival Qatar as the world's largest LNG exporter even though the companies that invested in the projects may not realize the returns they originally sought.
Domestically, Australia and Canberra will see some of the benefits in terms of jobs created and royalty and tax revenue. Australia's LNG export potential does not stop at these projects. There are several others that are in the planning stage without finalized investments that are clearly in jeopardy, since Australia's high price environment does not always undercut other producers, such as the United States, once they have factored in capital expenditures.
The United States alone has dozens of proposed LNG facilities, many of which are unrealistic, that are looking at the U.S. shale gas revolution as a source to export natural gas to more lucrative natural gas markets around the world. Estimates of how much natural gas the United States could export under ideal economic conditions vary considerably but could easily reach 50 bcm.
Similarly, Canada is also undergoing a natural gas production boom. However, the United States' distance from Asian markets, even with the Panama Canal expansion, cuts into the U.S. natural gas surplus price advantage. The break-even point for many of these projects can hover around $10 per mmbtu or higher and many of them are now in jeopardy given the current dynamics found in Asia. For the United States, lower potential natural gas exports do not necessarily affect the economy negatively. Unrestricted exports of natural gas from the United States could lead to a significant rise in the price of U.S. natural gas. This rise would undercut U.S. competitiveness in its industrial and manufacturing sectors that have gained an advantage relative to their European and Asian competitors because of relatively low energy prices in the United States.
Elsewhere, Mozambique and Tanzania show similar potential, proposing LNG facilities that could support 10 bcm to 20 bcm of LNG exports, if not more. The two African countries have very little domestic natural gas demand and are counting on foreign markets to entice international oil companies, such as ENI and Anadarko Petroleum Corp., to invest at least $20 billion to $30 billion in their small economies. To put this into perspective, Mozambique's current gross domestic product is under $20 billion annually.
The two countries are not without challenges. Their natural gas is located in deepwater offshore areas with little infrastructure development. Any company hoping to develop the resources in a significant way will have to build supporting infrastructure, too, unlike the U.S. Gulf Coast. This lack of infrastructure along with uncertain markets in Asia will make it challenging for the projects to get a green light, perhaps making the United States more competitive despite longer transportation distances.
Traditional dominant exporters of LNG are not sitting idly. Qatar is not only the world's top supplier of LNG, but it is also one of the lowest-cost producers of the fuel. Despite significant amounts of condensate (whose price has also fallen) along with natural gas, the emirate is still dependent on high LNG prices to offset domestic and regional spending. Qatar has worked to limit its exposure to volatile markets by selling nearly 50 percent of production volumes in long-term contracts, similar to neighboring Saudi Arabia, Kuwait and the United Arab Emirates, though even these are beginning to fall as oil prices tumble. They are the world's cheapest natural gas producer and have used periods of high prices to build up significant cash reserves. Many of the larger suppliers slated to come online in the next 6-24 months, such as Australia, or potential suppliers being considered, such as Mozambique, are quite costly in comparison to Qatar. Doha is hoping a desire to reduce market oversupply, especially in the valuable East Asian markets, will benefit Qatari exports in the medium to long term as prices rise, dissuading potential producers from making long-term investments. $10 per mmbtu prices might be the balancing point that Doha desires as it is at the lower point on the cusp of where other projects become profitable, enabling Qatar to achieve maximum revenue while minimizing risk to its market share in the long run.
The real winners, of course, are not the producers of LNG but rather industrial consumers of natural gas in Japan, Taiwan, China and South Korea — four of the world's largest LNG markets. While U.S. companies have enjoyed cheap natural gas for either feedstock or power, the opposite is true in Asia. Japan has been doubly compounded by the shutdown of nuclear power. Sustained lower energy prices will give energy-intensive industries much-needed relief since natural gas prices began to decouple in the late 2000s. Low oil and natural gas prices should not be expected to trigger a countrywide recovery in Japan or reverse China's economic rebalancing. Still, they will help key sectors regain their competitiveness, freeing up Beijing and Tokyo to concentrate on other issues.
Courtesy : Stratfor (www.stratfor.com)