Q&A: The impact of the Russia-Ukraine crisis on global LNG

Ten Questions and Answers prepared by ICIS analytics

ONE: What has happened to global gas prices?

Gas prices in Europe and Asia have been driven to record all-time highs as the two regions compete against each other to attract spot cargoes of liquefied natural gas (LNG).

The ICIS East Asia Index and the ICIS TTF spot gas price for Europe have been seen up to $70/MMBtu. That’s equal to crude oil prices over $400/barrel, far above the all-time high in the oil market of $147/barrel in summer 2008, although recent oil levels have been challenging that record too.

Russian pipeline gas is a key supply source for Europe, making up around one third of the Continent’s gas. Europe also produces its own gas, and imports from Norway, north Africa and from global LNG suppliers such as the US and Qatar.

Russian pipeline supplies of gas to western Europe have continued as normal throughout the Ukraine conflict to-date. However, buyers have been looking to the global market for LNG supplies in case of disruptions.

And the gas market had been tight even before the conflict, due to a cold winter last year and rising demand from growing gas consumers such as China.

Japan receives all its gas via LNG. It has no production of its own or pipeline supplies, so must compete for cargoes for its energy needs. China has its own production, LNG imports and pipeline supplies, including from Russia.

US gas prices are far lower than those in Europe and Asia because the widespread use of fracking technology enabled production from shale gas reserves and transformed the US from expectations that it would be a growing importer of gas into the world’s biggest LNG exporter in 2022.

TWO: What is LNG?

LNG is the liquid form of the natural gas – mostly methane or CH4 – that people use in their homes for cooking and central heating. Cooling natural gas to minus 162 degrees Celsius reduces its volume by a factor of 600, enabling it to be transported via ship rather than pipeline. This makes it possible to transport it economically over very long distances, or on routes that pipelines cannot cross.

LNG ships, unlike pipelines, are not fixed in place, so a key feature of LNG is that it can change destination. Historically most LNG tankers took regular routes serving holders of long-term contracts, but in recent years the market has been increasingly more short-term and variable, with around a third of cargoes following spot market trades.

LNG tankers can vary in size, but a standard modern vessel now carries around 170,000 cubic metres of LNG, which turns into around 100 million cubic metres (mcm) of pipeline gas when it has been turned back into gas at an import terminal. That’s about one third of the daily gas demand of a country like the UK, which uses around 300 mcm/day in winter.

Each tanker holds around 4 million MMBtu of energy. So if gas costs $70/MMBtu a cargo could be worth as much as $280m.

THREE: Who produces LNG?

Producers exported around 379 million tonnes of LNG in 2021, according to ICIS LNG Edge ship-tracking data.

The “big three” producers are Qatar, Australia and the US. Traditionally Qatar was the world’s biggest producer at 77 million tonnes per annum, but Australian exports challenged this in 2021, and in 2022 we expect the US to become the largest exporter.

Russia is the world’s fourth largest producer of LNG. It has two main plants, Sakhalin on the east coast to supply Asia, and Yamal in the Arctic, which supplies both Asia and Europe.

Norway is Europe’s only LNG producer. It can produce 4.3 million tonnes/year, but was out of action in 2021 after a fire in September 2020.

FOUR: Who are the importers of LNG?

China is now the world’s biggest importer of LNG after rapid growth in recent years due to its growing economy and its drive to switch away from dirtier fuels such as coal. China overtook Japan, which was previously the world number one.

The four east Asian buyers of China, Japan, South Korea and Taiwan together made up almost 60% of world LNG imports last year, making the region key to the LNG market.

Europe is the world’s second largest LNG region and could grow further in coming years.

FIVE: How can Europe get more LNG?

The majority of global LNG trade is locked up in long-term contracts between buyers and sellers. To raise the money to invest in billion-dollar liquefaction projects, producers need to line up long-term deals with buyers so they know their projects can pay back the construction costs.

Major buyers in east Asia depend on LNG deliveries for their own heating, power generation and industrial demand and sellers will strive to honour their long-term contracts with key consumers with whom they have decades-long relationships.

But around a third of the market responds more to short-term trends. European and Asian buyers have been competing against each other in spot gas markets to pay the highest prices to attract these flexible cargoes in recent months.

This was seen most spectacularly in mid-December 2021, when European spot gas prices spiked above Asian spot gas prices in order to cause tankers to switch mid-ocean from heading to Asia to head to Europe instead.

One ship, the Hellas Diana, carrying a US LNG cargo, even went half-way across the Pacific Ocean towards Asia before turning around in mid-December to head back to the UK. It ended up paying tolls to pass through the Panama Canal twice in one voyage, but prices in the UK were so high it was worthwhile.

Such spectacular course changes have not been seen since the outbreak of conflict in Ukraine, mainly because a lot of the flexible ships had already been heading towards Europe since mid-December anyway, so they did not need to turn around. The US in particular has sent a lot of its output across the Atlantic to Europe, supplying around half of Europe’s LNG imports in January 2021.

But this means the market is already reaching the limits of spot market flexibility. Sending any more LNG to Europe would require other buyers, with long-term contracts like Japan or China,  to agree to turn down their own consumption, or would need producers to actually start up new plants.

SIX: How fast can new plants come to the market?

US producer Venture Global has a new 10 million tonnes per annum plant commissioning this summer at Calcasieu Pass in Louisiana. In March 2022 it has already loaded its first two cargoes, which were both seen heading to Europe.

Norway’s 4.3mtpa Hammerfest LNG plant has been offline since the end of 2020 after it was damaged in a fire. Operator Equinor has most recently indicated it could restart operations in mid-May 2022.

Shell’s 3.6mtpa Prelude floating LNG plant off the Australian coast shut after a power failure in December 2021. If given regulatory approval it could restart in coming months, but it may possibly be offline for longer. It was previously out of action most of 2020 after a similar failure.

At the end of 2022 Italy’s Eni will start up a new 3.4mtpa floating production plant offshore Mozambique, Coral South.

There are further new projects planned for later years, although one of the biggest upcoming projects is Russia’s own Arctic 2 project, targeted for late 2023 onwards, which could be impacted by sanctions.

In the longer-term, Qatar aims to reclaim its crown as the world’s largest producer by expanding its output from its current 77mtpa to 126mtpa.

New LNG projects typically take around three to four years to build, so most  projects additional to those already in the works would not reach the market until the mid-2020s at the earliest.

Some US projects have come to market a little faster. For example Cheniere announced a final investment decision on a sixth 4.5mtpa train at its existing Sabine Pass plant in June 2019 and had the first cargoes by the end of 2021, with full completion in early 2022.

High prices could incentivise the use of new technology to bring some smaller new output to market at even more accelerated timelines. Italy’s Eni hopes to start up a 1.4mtpa plant offshore the Republic of Congo as early as second quarter 2023, using New Fortress Energy’s “Fast LNG” technology. This project would use gas produced at an existing oil field, so the existence of the upstream part of the project would provide a head-start.

SEVEN: Is there capacity to import more LNG into Europe?

If more LNG is being produced, there also needs to be investment in the capacity to transport it across the oceans, meaning new ships, and in the import terminals to receive the LNG in consumer countries, regasify it and feed it into national pipeline networks.

LNG import terminals in northwest Europe have been running pretty much at full capacity in early 2022, and could not fit in many more ships, even if more LNG was available.

There is greater spare regasification capacity in southern Europe, particularly in Spain, which has long had Europe’s greatest LNG import ability. However, if more LNG is imported into Spain, there would need to be investment in pipeline capacity to transport some of that gas from Spain to northern Europe.

There are various import projects across Europe to build new LNG import capacity that have been on the back-burner and may now see accelerated development. Germany in particular has been dusting off plans to build its first LNG import terminals, having previously relied on capacity in neighbouring countries, such as German energy companies booking space in the Dutch Gate LNG terminal.

Some smaller projects might be brought to market much more rapidly than building a full terminal. For example the UK had a former LNG import site at Teesside, northeast England, that had minimal onshore facilities, but could receive LNG from ships with their own onboard regasification equipment. Energy trader Trafigura now owns the site and has said there could be some interest in re-opening it.

EIGHT: What is the impact of sanctions on Russian LNG?

The UK government has announced a ban on Russian owned, controlled or chartered ships from UK ports. This looks set to stop most Russian LNG cargoes from the Arctic Yamal project from being delivered into the UK.

Cargoes from Yamal LNG come on Yamal LNG project ships, so could be seen as controlled by a Russian project, even if the ship itself did not necessarily have a Russian flag or Russian owner. Some ships could have complicated ownership structures, such as a Greek-Chinese partnership owning a ship that delivers from Russia.

There is no ban on Russian cargoes on non-Russian ships, but all the ice-class vessels that can serve Yamal LNG are Yamal LNG project ships, so it is not easy for other ships to load there. And dock-workers could resist unloading cargoes even if they are not strictly ruled out by the letter of the law, with trade unions at UK ports having rejected Russian LNG deliveries.

At the time of writing Russian ships could still deliver to Continental European ports, allowing Yamal LNG to still deliver elsewhere in Europe. Yamal LNG delivered almost 10 million tonnes of LNG to Europe in 2021.

Sanctions on finance to Russian companies and on supplying hi-tech equipment to Russia could have an impact on the progress of future Russian export projects, such as the country’s Arctic LNG 2 plant, which had been due to start up its first 6.6mtpa train at the end of 2023, with two more to follow in subsequent years raising total capacity to almost 20mtpa.

Slowdown in such projects at a time of continued growing global demand from consumers in China and South Asia could contribute to ongoing market tightness in the near-term until new projects elsewhere come onstream.

NINE: What is the impact on LNG contracts?

The record high prices seen since summer 2021, even before the start of the Russia-Ukraine conflict, have led major importers to renew their interest in long-term contract gas supplies as an alternative to buying in the spot market.

There has been a surge of interest in deals priced off the US Henry Hub gas price. Even at recent highs of around $5/MMBtu, a typical new LNG contract priced at 115% of the Henry Hub to buy gas, plus a $2 fixed fee for liquefaction, could produce a cargo for less than $8/MMBtu, far lower than recent spot levels.

With continued uncertainty over how long conflict in Europe will last, continued economic growth in Asia, and a global drive to de-carbonise that will continue to spur fuel-switching from coal to gas, there are strong reasons for the market to remain tight in coming years.

Over time continued growth of the US LNG industry could draw US Henry Hub gas prices higher and narrow the differentials between US prices and those in Asia and Europe. This may yet be some way off though, and investors will likely see US projects as favourable investments both in pricing terms and with regards to their limited geopolitical risk.

Oil prices have been surging higher along with gas prices, but remain below gas in price per unit of energy terms, so oil-linked long-term contracts may also continue to see interest.

Chinese companies have been very active in the long-term contract market since summer 2021, signing many decades-long export deals worth billions of dollars, particularly with US producers. Examples include Sinopec’s 20 year deal for 4mtpa from Venture Global agreed in November 2021 and CNOOC’s 20 year deal for 2mtpa from Venture signed in December.

With Asian buyers locking in future supplies in firm contracts, and the possibility of an ongoing tight spot market in coming years, European countries may start to reconsider the need to increase their own portfolio of long-term supplies, particularly countries such as the UK which have almost entirely relied on flexible spot supply in the past.

TEN: What is the impact on LNG shipping?

Somewhat surprisingly, the cost of hiring an LNG tanker has dropped in recent months, despite the surging price of gas and growing interest in LNG.

ICIS assessments show the cost of hiring a standard Atlantic tanker at around $35,000/day, down from a peak of $250,000/day late last year.

What’s been keeping charter rates in the doldrums? As more cargoes have been attracted to Europe, particularly from the US, a larger number of ships are working on short routes from the US to Europe, rather than longer deliveries from the US across the Pacific to Asia. This re-direction of trade flows means there is overall less demand for shipping in the current market.

In the longer-term, however, ship-owners look set to benefit from growth in market size. The LNG market was already expected to grow over coming decades, even in lower carbon scenarios, as Asian countries grew and switched from coal to gas.

But there will now be additional growth in LNG to Europe as the Continent diversifies away from pipeline gas, requiring new investment in shipping capacity.