Ukraine’s forward gas market needs credit lines, traders

KYIV (ICIS)–Companies active in the Ukrainian gas market have called on western banks to extend much-needed credit lines that would help the country fast-track the development of its gas market.

Speaking to ICIS on the sidelines of the Adam Smith Ukrainian Energy Forum in Kyiv on 26 February, several traders said the country was struggling to develop a forward market because banks were reluctant to offer credit lines beyond one to three months.

In order to trade longer-term products such as seasonal or yearly contracts, companies would need to offer significant collateral.

However, they are struggling to do so either because local banks are not deemed stable enough for companies to tap them or western lenders are reluctant to offer financing.

“Let’s assume Ukrainian banks would offer credit which would then be further covered by a western bank. If I were to hedge one billion cubic metres of gas it would cost me between €50-70m to take out credit based on this arrangement,” a trader said.

In contrast, if a highly rated energy company were to take out a bank guarantee from a top-rated lender, the fee would be much lower, he said.

“The fee [for taking out credit] is dependent not primarily on how well the issuing bank is rated alone, but [also on] how good the company’s credit rating is that the banks need to guarantee for. In other words, an investment grade top credit rated energy company can source bank guarantees from an investment grade rated bank with a fee payable for issuing this guarantee of around 0.8% or less of the total bank guarantee amount per annum. So, a $5m guarantee issued by the bank to someone on your behalf and valid for one year would cost around $40,000 per annum.”

Despite significant economic improvements in the last five years, Ukraine’s overall credit ratings are still low.

Standard & Poor’s and Fitch’s credit ratings currently stand at B, while Moody’s at Caa1. Although the country improved its ratings substantially since 2014 when they stood at CCC negative, indicating substantial risks, they are still not high enough to allow companies to tap international finances easily.

“For the gas market there is a strong case for banks to offer credit. Ukrainian gas prices are increasingly correlated with European hub prices,” the trader said, noting that the country has also made important progress in reforming the gas sector.

“However, there is one drawback. In Ukraine, local companies would much rather opt for short-term gains, even if this may tarnish their reputation, than the long-term advantage of building and retaining impeccable reputations that would earn them the trust of counterparties either from Ukraine or abroad.”

Other gas traders also noted that the lack of trust and the inability of companies to tap credit lines was complicating the development of the gas market where companies were often asking for pre-payments.

“Ukraine is an unusual market. No other European market asks for pre-payments for transactions, but companies in Ukraine have to because of credit default risk,” a second trader said.

The first trader said trading outfits as well as producers were simply struggling to understand the importance of hedging, which would minimise risks particularly in the current low gas price environment.

Hedging tools typically involve derivatives such as options or futures, which do not yet exist in the Ukrainian gas market.