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The EU is looking to cut its dependency on Russian natural gas, but such a shift could create new problems for countries trying to lock in future supply. Anthony Okolie speaks with Ryan McKay, Commodity Strategist, TD Securities about the changing natural gas landscape.
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- The Russia-Ukraine conflict has been pushing European countries like Germany to move away from Russian commodities, such as natural gas. And in some, cases the plan includes tapping the global LNG market. My next guest says a move like that may create new challenges. Ryan MacKay is a commodity strategist with TD Securities. Ryan, what are some of the obstacles that Europe faces when trying to use the global LNG market to offset Russian supply?
- Yeah, thanks for having me. On the face of it, Europe actually has enough LNG capacity to offset Russian supply. But the issues start to arise when we look at where that could pass these located and the support infrastructure that's available. So the major concern is that a lot of the spare capacity is located in Spain, but Spain lacks the pipeline connections to the rest of Europe to really be a viable offset.
So if we remove Spain from the equation, that spare capacity number becomes a lot less. And it's likely not enough to meet Europe's repowered EU target or to offset any material loss in Russian supply. And so if we do lose that supply and we don't have that LNG offset, we'll be looking at inventory levels even lower than they already are and structurally higher prices for the foreseeable future.
- Now, you also say that there are real limitations on the supply side, including from the US. Why is that?
- Yeah. So that is the case. And while the US and Europe did reach an agreement recently to send more LNG this year, it's unlikely to make a real impact. And that's because the US is already exporting at maximum capacity north of 13 BCF per day. And Europe's share of that export has risen from 20% to a record high of 60% in the last three months alone.
So a lot of that short-term variability and flexibility that did exist has already been used up. And what remains, the supply is tied up in longer term contracts to primary users who are not very sensitive to prices. And even suppliers outside of the US, around the globe have noted similar issues with regard to short-term supply.
And even what is available in the market will come with stiff competition from Asian buyers as well. So certainly, that LNG supply could be an issue here moving forward.
- OK, now, when it comes to regional natural gas prices, there does seem to be a bit of a divergence in prices when you compare Europe and other markets like the US. Can you expand on that a little bit?
- Yeah. It's a great question. And it comes back to the export story that we were just touching on. Typically, the way that bullish European markets would filter through to the US market would be through that LNG trade. But with the US exports already maxed out, a lot of that marginal benefit has already been exhausted. And so we've seen US prices have been a lot less sensitive to the situation compared to what you would expect.
But what I would say is that as long as the LNG market does remain strong and it keeps those export levels at maximum capacity, it does offer a level of support for the US market nonetheless.
- OK. I know that we recently saw the headlines a little while back-- the EU declared natural gas a green energy. And it's a key part of the energy transition. Now, you think that things are looking up for LNG producers. But you say that that's not necessarily the case.
- Yeah. This is more of a short-term versus long-term dynamic. Certainly in the short-term, the LNG market is very attractive and doing very well. And some of the shortages that we're seeing in the market suggest that this could be the case for a couple more years. But higher prices will ultimately incentivize more capacity and more supply down the line.
But it'll also damage demand as well, as buyers will look for alternatives, whether it be coal, nuclear, or renewable energy. And it's worth noting that one of Europe's main goals is actually to reduce natural gas demand in favor of those renewables. And so with the situation being what it is, we could certainly see approvals and permits on the renewables side being fast-tracked, which would come at the detriment to natural gas demand down the road.
- So there seems to be, again, a lot of moving parts. What's your outlook for natural gas prices going forward?
- Yeah, of course, it's a very volatile and fluid situation with a lot depending on the day-to-day geopolitics and policy changes that are happening. But I would say with the sheer amount of supply risk that's present in the market, we see European TTF prices remaining north of 100 euros per megawatt hour. And if we do have a material loss in Russian supply, we could see that go even higher towards the recent all-time highs where we saw 350 euros per megawatt hour.
It'll all depend on how much supply is actually lost if that's the case. As for the US market, just given that it has been a lot less sensitive, we see only more modest upside in the $5.50 to high $5 range.
- Ryan, thank you very much for joining us.
- Thanks for having me.
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- Yeah, thanks for having me. On the face of it, Europe actually has enough LNG capacity to offset Russian supply. But the issues start to arise when we look at where that could pass these located and the support infrastructure that's available. So the major concern is that a lot of the spare capacity is located in Spain, but Spain lacks the pipeline connections to the rest of Europe to really be a viable offset.
So if we remove Spain from the equation, that spare capacity number becomes a lot less. And it's likely not enough to meet Europe's repowered EU target or to offset any material loss in Russian supply. And so if we do lose that supply and we don't have that LNG offset, we'll be looking at inventory levels even lower than they already are and structurally higher prices for the foreseeable future.
- Now, you also say that there are real limitations on the supply side, including from the US. Why is that?
- Yeah. So that is the case. And while the US and Europe did reach an agreement recently to send more LNG this year, it's unlikely to make a real impact. And that's because the US is already exporting at maximum capacity north of 13 BCF per day. And Europe's share of that export has risen from 20% to a record high of 60% in the last three months alone.
So a lot of that short-term variability and flexibility that did exist has already been used up. And what remains, the supply is tied up in longer term contracts to primary users who are not very sensitive to prices. And even suppliers outside of the US, around the globe have noted similar issues with regard to short-term supply.
And even what is available in the market will come with stiff competition from Asian buyers as well. So certainly, that LNG supply could be an issue here moving forward.
- OK, now, when it comes to regional natural gas prices, there does seem to be a bit of a divergence in prices when you compare Europe and other markets like the US. Can you expand on that a little bit?
- Yeah. It's a great question. And it comes back to the export story that we were just touching on. Typically, the way that bullish European markets would filter through to the US market would be through that LNG trade. But with the US exports already maxed out, a lot of that marginal benefit has already been exhausted. And so we've seen US prices have been a lot less sensitive to the situation compared to what you would expect.
But what I would say is that as long as the LNG market does remain strong and it keeps those export levels at maximum capacity, it does offer a level of support for the US market nonetheless.
- OK. I know that we recently saw the headlines a little while back-- the EU declared natural gas a green energy. And it's a key part of the energy transition. Now, you think that things are looking up for LNG producers. But you say that that's not necessarily the case.
- Yeah. This is more of a short-term versus long-term dynamic. Certainly in the short-term, the LNG market is very attractive and doing very well. And some of the shortages that we're seeing in the market suggest that this could be the case for a couple more years. But higher prices will ultimately incentivize more capacity and more supply down the line.
But it'll also damage demand as well, as buyers will look for alternatives, whether it be coal, nuclear, or renewable energy. And it's worth noting that one of Europe's main goals is actually to reduce natural gas demand in favor of those renewables. And so with the situation being what it is, we could certainly see approvals and permits on the renewables side being fast-tracked, which would come at the detriment to natural gas demand down the road.
- So there seems to be, again, a lot of moving parts. What's your outlook for natural gas prices going forward?
- Yeah, of course, it's a very volatile and fluid situation with a lot depending on the day-to-day geopolitics and policy changes that are happening. But I would say with the sheer amount of supply risk that's present in the market, we see European TTF prices remaining north of 100 euros per megawatt hour. And if we do have a material loss in Russian supply, we could see that go even higher towards the recent all-time highs where we saw 350 euros per megawatt hour.
It'll all depend on how much supply is actually lost if that's the case. As for the US market, just given that it has been a lot less sensitive, we see only more modest upside in the $5.50 to high $5 range.
- Ryan, thank you very much for joining us.
- Thanks for having me.
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