Domestic bottlenecks and global gas markets: Gas Year 2021 review

LONDON (ICIS)–Entering the 2021 gas year, Europe was already facing low storage levels due to a drop in Russian flows throughout the previous summer, low LNG and US infrastructure outages. However, despite entering a winter which seemed to present bullish conditions throughout, Russia’s invasion of Ukraine on 24 February meant the geopolitical developments to follow drastically changed the European supply and demand picture, its regulatory framework, trading activity on the market and the pricing and volatility range across its gas hubs to levels never seen before.

High Asian demand over the course of 2021 resulted in a drop in LNG arrivals to Europe, paired with reduced LNG exports from the US Gulf Coast following outages. These two points tightened injection-related supply over the summer months. Reduced supply continued throughout winter and, coupled with below-average temperatures, led to a much higher usage of stored gas than seen in the previous years.

By February 2022, conditions across European markets had already resulted in rising gas prices. In this context, Russia’s invasion of Ukraine meant that the European Union needed to put together a series of steps to end its reliance on Russia while granting security of supply. Russia was traditionally the largest exporter to the EU – taking that away meant an even tighter supply picture, which ignited the markets’ bullish run.

REPOWEREU

As Russia initiated the war against Ukraine, the European Union put together a package of measures called REPowerEU, which was finalised at the beginning of the gas summer. The measures were developed to allow countries to reduce and completely cut their dependence on Russia as fast as possible while maintaining security of supply.

The plan aimed at reducing Russian gas imports by two thirds in 2022—which happened in the second part of the year, although it was caused by infrastructural damages and Russia’s decision to change the payment method for Russian gas rather than by EU policy.

The steps through which the EU planned on gaining independence from Russian gas were to import an additional 50 billion cubic metres (bcm) of LNG compared with 2021 (which would have brought total LNG imports to around 115bcm), to increase pipeline imports from sources other than Russia by 10bcm (Norway, Algeria, Azerbaijan, Libya) and to save around 41bcm via more renewables and demand reductions.

At the same time, to make sure Europe had enough gas to meet peaks in heating-related demand in winter, the European Commission set mandatory filling targets that EU member states had to reach ahead of gas winter 2022.

These were a minimum fullness of 80% by 1 November 2022 and 90% by 1 November in the following years.

For what concerns supply, European energy companies and utilities were already moving to reshape their portfolio and account for the potential loss of Russian gas. Throughout summer companies and states renegotiated higher volumes of gas from suppliers other than Russia, which mostly consisted of LNG producers.

In 2021 Russian flows accounted for around 40% of overall European supply. In August 2022 this was down to 10%. Conversely, LNG rose to be the second (and in some months, the first) source of supply to Europe.

US LNG supply to Europe rose in particular, and exceeded combined Russian gas and LNG for the first time in September 2022, with the trend likely to continue based on forward market price spreads.

DOMESTIC BOTTLENECKS AND GLOBAL GAS MARKETS

As Europe’s reliance on LNG supply grew, two key issues came to light that contributed to prices spiking to record highs and extreme volatility on the markets.

The first was infrastructural. European countries are big demand centres with a high dependence on gas in the domestic, industrial and power sector but very little domestic production. As such, the infrastructure that connects the different countries is very well evolved when it comes to delivering gas from the historical suppliers such as Russia and Norway to key European hubs.

However, LNG enters the European grid at very different locations compared with Russian and Norwegian piped gas.

The EU countries with the largest LNG import capacity are Spain, France and the UK, all of them with very limited export capacity to northwest and central eastern Europe, which in turn have very little LNG import capacity.

Therefore, the change in flow patterns brought to light infrastructural bottlenecks that brought to a decoupling of European hub prices, with the Spanish PVB front month trading at times up to €80/MWh below its TTF equivalent.

These issues are being discussed by the European Commission and counties have put in motion plans for expanding the interconnectivity between hubs.

A series of projects to improve LNG regasification capacity have also been approved, with countries rushing to purchase floating storage and regasification units (FSRUs) and Germany accelerating the expected completion of its LNG terminal projects.

Another issue is the higher dependence on spot LNG. Contrary to pipeline gas, LNG is a global commodity, which means that Europe will have to compete with other key demand regions on a global playing field to secure the LNG volumes it needs. This means that, in cases of below-average temperatures over winter both in Asia and in Europe, the supply crunch may feed into continued high prices and volatility in both regions.

As summer came to an end and countries reached the mandated storage fullness levels, it became clear to the EU that measures to control and reduce demand needed to be put in place in order to grant security of supply in Europe, beyond the voluntary demand cut of 15% which was part of the plan to “save gas for a safe winter”.

These are at the centre of current discussion within the commission, together with measures to contain high energy prices while securing enough supply to face the colder winter months.