European gas for power demand surge likely to continue this winter

Coal-fired power production slumped, gas gained across UK, France and Germany

This is likely to continue given current gas supply outlook

Carbon to keep encouraging gas-fired generation

LONDON (ICIS)–Rampant gas-fired power demand sweeping across Europe is set to continue to grow with high carbon prices and LNG supply unlikely to relent over the coming winter given the current outlook.

Gas-fired demand has eaten into demand for coal from the European power sector.

In each month except January in 2019, the combined total coal-fired generation of the three largest power markets in Europe – UK, France and Germany – has slumped year on year.

Meanwhile, gas-fired production has rocketed with January 2019 the month with the highest combined total generation of the three countries.

A mixture of exceptionally bearish gas prices in continental markets, crushed by high LNG supply into Europe and a mild winter, coupled with roaring carbon bulls, has driven gas-fired generation into the money.

CARBON’S RISING INFLUENCE

Correlation between carbon movements and European gas prices has been on the up in recent sessions, indicative of the rising influence of power generation implications for gas markets.

For example, during week 34, volatile carbon movements spilled influence over onto the benchmark TTF front month, a contract traditionally more sensitive to fundamental changes rather than EUAs.

Despite carbon’s recent losses, the long-term outlook is bullish for EUAs due to the presence of the Market Stability Reserve (MSR).

The reserve, which came into force in January 2019, will artificially tighten the supply of carbon emission allowances over the coming years, driving up prices. ICIS analysts forecast carbon to reach up around €31/tCO2e this winter.

This will ensure that gas-fired generation continues to eat into coal’s share of European power generation over the winter months. Coal generators must purchase relatively more allowances than gas producers to emit carbon.

Correspondingly, ICIS clean dark and clean spark spreads, respective measures for the profitability of coal and gas generation, for year+1 delivery testify to the attractiveness of gas over coal in 2020.

GAS OUTLOOK

The bearish gas trend is likely to continue given a high LNG supply outlook and storage levels at multi-year highs.

Stocks supporting the German and Dutch gas grids both above 90% full, around 20 percentage points above levels seen last year and also significantly higher than in 2017. This means that any weather-related upside this winter to gas will be capped to a degree by ample supply in storage.

Furthermore, LNG production growth is expected to remain strong until at least European gas stocks are filled in October which would limit the region’s ability to absorb cargoes.

PRICE OUTLOOK

Given the likely rising demand for gas from the European power sector over the winter, gas prices across the continent may find some support from power-related demand. Power prices will also likely continue to track up following bullish carbon.