GIF INSIDE STORY: Europe’s short-term LNG commitment

Daniela Miccoli contributed to this article

Europe’s reluctance to enter new long-term LNG supply contracts is increasing its exposure to the volatility of the global spot market while Asia is pursuing a different strategy. The ambivalent approach to long-term deals is out of line with the expansion of LNG infrastructure post Ukraine invasion that allows Europe to compete for cargos.

LONDON (ICIS)–The share of flexible LNG in Europe’s gas supply mix is set to increase to more than 70% by 2030 if expiring long-term contracts are not renewed and no new contracts are signed, Tim Gould, International Energy Agency (IEA) chief energy economist said at the Congres du Gaz in Paris on 19 September.

Previous IEA data showed the EU’s gas market exposure to the global spot market is set to rise in the coming years. Spot procurements and destination-flexible LNG contracts would meet about 48% of the EU’s total gas demand in 2023 and – if EU companies don’t engage in a more active contracting strategy – spot share could rise to above 50% by 2025.

Long-term supply contracts and domestic production used to cover at least 80% of the EU’s gas demand in the past while spot procurements played only a minor role. It was most often used for portfolio optimisation.

LNG contracts data collated by ICIS LNG Edge showed that Europe should see at least an average of close to 70mtpa of LNG through LTC by 2030, before contracted LNG deals drop steadily ahead of 2050, a key deadline for the continent’s climate ambitions.

“It has not been easy, particularly for some European importers, to discuss new long-term contracts with international gas suppliers because of a mismatch in time horizons, with suppliers looking towards a 15-20 year horizon while the preference for European importers has been for shorter term commitments,” Gould told ICIS at the sidelines of conference.

Europe’s response to Russian gas supply cuts was to boost its LNG infrastructure. By the end of 2023 a total of 41bcm/year of new regasification capacity is planned to come online around Europe.

At the same time, since Russia’s invasion of Ukraine, EU companies only signed 16.2m tonnes/year equivalent to roughly 20bcm of natural gas -just one-seventh of Russia’s piped gas deliveries to the EU in 2021.

According to ICIS LNG Edge data, between 2022/2023 10 LNG long-term contracts have been signed with a known destination in Europe.

One of the latest was TotalEnergies deal with Middle eastern producer QatarEnergy for two long-term LNG sale and purchase agreements (SPAs) to supply a total of up to 3.5m tonnes of LNG annually from Qatar to France’s Fos Cavaou LNG terminal (see separate story). This is the only know contract to secure LNG supply to a known European destination beyond 2050.

Six of the contracts were for Germany, totalling 9.3 billion cubic meters (bcm)/year. The remaining are signed with delivery to France (3.5 bcm/year), Poland (1.4bcm/year), Turkey (1.4bcm/year), Spain (0.6 bcm/year).

Additional long-term contracts were signed during the same time by companies that own stakes in European terminals or are known to have delivered cargos in Europe in the past but no destination country is specified.

ICIS data also shows that 21 long-term contracts totalling 27bcm/year to be delivered in Europe, have or will expire between 2022/2023, further shrinking contracted volumes.

Multiple sources told ICIS that European countries will be importing mostly on a spot basis. Some believe spot trades will increase because Europe is lacking “key long-term [contracted] volumes” and because spot trading is deemed more profitable in the current market conditions.

A stronger reliance on spot LNG supply would also make European countries more vulnerable to price movements.

“For the moment Europe is becoming more reliant on the spot market and that comes with potential benefits but also with potential vulnerabilities,” Gould warned, noting that for large energy players, “flexibility in LNG portfolio could be an asset”.

European gas buyers have found themselves between a rock and hard place as they have the responsibility to maintain supply security but are also facing political pressure not to buy natural gas long-term.

Last year Europe not only experienced Russia’s gas supply cuts, but also a gradual expiry of other long-term contracts and the decline in domestic production.

All of that rapidly increased the EU’s exposure to the spot market and its price volatility. The European Commission, however, has been set of phasing out long-term contracts and that message has not changed.

Asia’s strategies

But if we look at countries like China and India, their approach is radically different, with more interest for long-term LNG deals.

“What the industry has realised now is that they can’t have long-term business on spot purchases. So the need is to have long-term contracts, a good mix of long-term, short-term and medium-term contracts” Akshay Kumar Singh, CEO of India’s Petronet LNG was quoted as saying in the media in February this year.

“Long-term contracts and the increase in domestic (gas) production during this crisis have definitely helped our country. Going forward, we think we should move more contracts on (to a) long-term basis” he added.

“If it is available at a reasonable price, a lot of gas can come to the country,” he also pointed out.

Demand decline risk

But long-term deals also presuppose a clear view on future demand needs.

“You are also taking a volume risk and you need to make sure that there is demand out there for enough gas,” Gould said.

While supply sources like US LNG allow more flexibility, as cargoes could be redirected either to Europe or Asia, other sources lack the same type of flexibility.

As shown by IEA analysis, because gas demand is in structural decline in many advanced economies, “in our view it [gas demand] is not going to grow as strongly as we thought a few years ago,” Gould said, noting: “By the end of this decade we could see a dip in global gas demand.”

Still, global LNG capacity is expected to expand by 25% between 2022 and 2026 according to IEA data published on 10 October.

ICIS LNG Edge forecasts that global LNG demand should total 400m tonnes in the calendar year 2023 and should peak at almost 429m tonnes in 2024, before dropping to 343m tonnes in 2025.
According to ICIS data, global LNG imports in 2023 to September reached 303m tonnes, up from 294m tonnes seen in the previous year.

Europe (including Turkey and the UK) increased its intake of LNG to 92m tonnes, up by 2m tonnes year on year, and now accounts for 30% of global imports.

Imports of LNG to the East Asian markets, including China, Japan, South Korea and Taiwan were fairly steady year on year at 149m tonnes in 2023 to September and account for 49% of global imports

LNG competition in Europe

Asked about the potential growing competition among Europe’s new LNG terminals to attract global cargoes, Gould highlighted the advantage for Europe in having an integrated gas market and a widely interconnected infrastructure.

“Behind all those new LNG terminals you have an integrated European single market, therefore any gas entering Europe, in theory, could be available to different part of Europe” Gould said.

“However, there are still some infrastructure bottlenecks and Europe’s gas infrastructure is facing different pressures and flows patterns, we are now moving gas West to East, instead of the East to West direction [as it historically used to be before the crunch of Russian piped supplies to Europe],” he added.

“All of this has to be managed by the gas infrastructure players and I think that’s an underappreciated strength of Europe and the achievement of unifying and building new infrastructures for moving gas across the continent has been pivotal to its ability to respond [to the supply crisis] over the past two years”.

European players will respond to signals on the market to see where the gas can be most profitably used, Gould said.

Chinese demand

Asian demand and Chinese demand in particular is a key factor that can affect availability of LNG volumes for Europe.

Gould told ICIS that LNG demand in China is expected to grow despite new pipeline interconnections with Russia, “but, in our view, not as fast as it used to” he added.

According to ICIS data, Chinese LNG trade has grown steadily throughout the year, and in every month apart from January, imports increased year on year.

Chinese LNG imports increased the most in August by around 30% yearly to 6.4m tonnes, compared to 4.7m tonnes in 2022.

However, demand has failed to recover to levels seen in 2021 as high-prices deter Chinese buyers along with significant gas-to-coal switching.

China still views coal as a major energy source, and aims to enhance energy storage, domestic gas production and to increase policy support for power plants and central heating units, despite a fast-paced renewables growth.

ICIS forecasts China 2023 LNG demand at 71.3m tonnes, which is up 10% from 2022, but down 6% from 2021’s record.

Going forward, China’s reluctance to enter the spot market amid high global gas prices and its commitment to destination-flexible contracts could signal its new role as a ‘balancing market’ for LNG volumes.

Security of supply

Last year’s energy crisis revealed a deeply unstable global gas network which becomes more fragile when countries and entities rely on unhedged, spot volumes to meet demand needs.

European buyers are therefore facing a dilemma between committing to long-term volumes within this decade, which could have the effects of pushing the market into oversupply akin to the early 2000s and force many terminal shut-ins. Or pursue the current ‘wait and see’ approach thereby allowing LNG producers to hold all the cards.

But if we have learnt anything from the last two years, having security of supply in the form of contracted supply is the best form of insurance against heightened volatility.

Thus, some level of dialogue between the continent’s buyers and LNG sellers would go some way in bridging the gap between the EU’s climate goals and immediate energy security needs.
At the same time, European countries could find themselves in a more flexible position when they would need to disengage from fossil fuel supplies and embrace new renewable sources, potentially even having more cash resources available for green investments rather than locking them in long-term non-sustainable deals.

Europe will definitely need to balance its climate goals with its needs for LNG, but in the meantime trading companies would need to find new ways to stabilise their portfolios – possibly increasing their involvement in storage capacity – to balance the lack of long-term supply deals.

Only time – and the actual progression of the energy transition – will tell who was right in this horizons game.