EU natural gas flows to Ukraine expected to stop with Russian discount

The physical reverse flow of natural gas from Europe back to Ukraine is expected to stop, or at least significantly reduce, when Russia’s new pricing terms kick in from the beginning of 2014, sources have said in the wake of a new deal between the two countries.

A number of Ukrainian politicians have said the temporary deal struck earlier in the week will commence at the start of 1 January 2014 as the parties agreed to an annex to their current supply contract signed in 2009.

The low price agreed means any financial advantage for Ukrainian buyers to source gas from Europe’s spot markets, while nominating down their long-term contract, will be completely eradicated.

Earlier this week, Russian president Vladimir Putin agreed with his Ukrainian counterpart Viktor Yanukovich that Russian major Gazprom will sell gas to Ukraine’s Naftogaz for $268.50/thousand cubic metres (kcm), down from around $400.00/kcm ( see ESGM 17 December 2013 ).

This is equivalent to cutting the price to around €18.50/MWh, from around €27.60/MWh previously.

Based on Thursday’s ICIS front quarter prices, this would put the Ukrainian contract at a discount of around €9.675/MWh to the Austrian hub and around €9.475/MWh to the Dutch market.

Traders were surprised at how large a discount Russia had offered Ukraine, adding there was little reason for Naftogaz to continue buying small volumes at Europe’s hubs to physically reverse back east.

“If a discount of around a third has really been given, there is no point in Ukraine importing from Europe,” one source said, adding that without the exact terms of the price reduction, it would be difficult to say quite how the arbitrage opportunity had been closed out, or for how long it might last.

“The price is surprisingly low, if that’s what it really is,” another counterparty said.

There has been suggestion from some that if the gas is really priced at a discount of around €9.00/MWh to the central European prices, Ukraine could even beginning trading spot market as a seller. The caveat to this would be the absence of a destination clause, which few thought would be the case, however.

Absence of winter tension

While the agreed discount is likely to mean further European exports to Ukraine will fall, it also suggests Europe’s own security of supply for the current winter has improved.

Sources said that with an agreement between Putin and Yanukovich, there should be no tension – in the sphere of gas supply at least – that could lead to a cut or reduction in supply to Ukraine that could knock on to EU states.

“With this agreement in place, the likelihood of a repeat of 2009 is greatly reduced,” a trader said.

Ukrainian has been importing gas from Europe’s spot markets for just over a year via connections on both the Polish and Hungarian borders. Trader interest in both these hubs has grown recently in part because of the access to Ukraine.

Grid operator data shows that typically currently only around 5 million cubic metres/day is physically sent east.

Naftogaz has a deal to purchase volumes from Germany’s RWE, while Ukrainian independent utilities DTEK and VETEK have also shipped gas across the border, after an initial deal with Polish incumbent PGNiG. Tom Marzec-Manser