Europe Breaks Up With Natural Gas

be needed. While there may be enough gas to get through this upcoming winter, there's a lot to consider when we think about what might happen to the supply and demand balance in the months and years ahead. So today I sit down with Stefan Ulrich and Arun Tora, who are both European gas specialists at bienn e F, and they're going to talk about our winter gas outlook. We do these twice a year, once for the summer and

once for the winter. As a reminder, bienni F does not provide investment or strategy advice, and our complete disclaimer can be found at the very end of the show. And now let's jump into the conversation with Stefan and Aaron and think about what might happen as we look forward to this winter and natural gas. Stefan, thank you for joining us, and Aaron Yea, thank you. Dana happy

to be here. So we are here to talk about while the outlook for natural gas as we head into this winter in the Northern Hemisphere, and we do both a winter and a summer gas outlook every single year, and the both of you we do these globally, but you guys focus specifically on the European part of this outlook, and this is really where I think the I guess the crux of the attention is globally right now is on Europe specifically. So we will come to that and

we will talk about those dynamics. But before we dive in there, could you please provide some perspective on why before the whole world was looking at gas prices, we were writing and researching winter and summer gas outlooks. Fundamentally, your gas year is split into two parts, your winter where you withdraw gas from storage, and your summer where you put gas into storage. Most gas consumption is in the Northern Hemisphere, so that works as a kind of

like a global picture. So as a BNF Global Gas research team, what we do is at the start of each of those seasons in the winter, so that starts from October, so in September and the summer. So that's a forecast we produced in March for April looking for the year ahead for those two seasons. In many ways, these are like our regular monthly publications we put out, so we have our global Energy Outlook, we have the

US Gas Monthly and the European Gas Monthly. But these are just where we really crunch some of the numbers and a bit more details, sit together as a team and decide what the story is for the global gas markets over the coming twelve months. So the disruption specifically in Europe really took off this summer, even though the crunch time is really approaching right now in the winter. So as we think about that, so Western Europe, what really happened was it lost almost all of its pipe

supply from Russia. Can you really talk about why this is so important to the supply for Europe generally and what this does to the gas balance. So that pipe supply or Russian pipe supply and makes up around the third of your total European gas supply. So it's a market which have lost the very large chunk around thirty percent at the moment of its total supply, and for a lot of commodities markets, that would be quite a hard shock to balance. Fundamentally, this is a story which

has been building over time. Russian gas supplies didn't really flow to the levels expected and have gradually decreased coming to the summer, where you've only got a dribble, so around ten of their historical levels remaining. So Russian gas was the third of the supply to Europe. But how about the rest of Russia's gas? Where else are they selling to and no longer supplying to Europe? Has that been problematic for them? Yeah, it's it's been problematic for them.

So the thing is about pipeline gas. Those pipelines run to fixed locations and so you can't really send that gas to other locations unless you have a pipeline heading from the same source to a different location, which when it comes to a lot of Russian gas production that isn't currently So a lot of that gas which would be or historically has been sent to Europe is now is now lost to the global market, which is why this then also this has a very big impact on

your global gas balance. When it comes to regards to Russian sales, high prices had largely offset their lowest sales volumes untill around the summer of this year, when you've actually increasingly seen Russian gas revenues for on a year on year basis, of course pipeline gas to Europe and the only gas Russia cells. It still has pipeline sales to China which are ramping up, but it also of course sells all energy Aaron, can you quantify those cells

and really highlight where they've been flowing. Yeah, thank you, Stephan. In particular Russian llergy exports into Western Europe, so markets such as Spain, Netherlands, France, they have they have increasingly been importing higher volumes of llergy from Russia, even countries that typically didn't import Russian energies. So you're looking at countries such as Belgium, they are now increasing their appetite for Russian energy and this is primarily coming from the

Yamal facility. So it's quite interesting, you know, when we talk about the complete, well not complete, almost complete collapse of Russian supply into Western Europe, we're still importing quite a significant amount of energy and just quickly explained why this supply was shut off. This was not due to sanctions imposed by Europe on Russia. This was a decision made by Russia proactively correct That depends on who you're

talking to write. But we read a piece back in September one called unpacking putin statements right, which was really looking at some of the what we have to say, rather weak arguments Russia was using to justify why flows to Europe had not returned to previous highs and actually kept on falling. There is of course a debate about the nord Stream two pipeline and whether this reduction in flows could be viewed in retaliation to some of the

political movements around that. And then, of course, though since the war in Ukraine, Russian flows have fallen further and further as the excuses have mounted. Only one turbine was left operational on the nord Stream pipeline, with I think a total of seven turbines at that facility or the upstream facility being found with technical issues. That's really surprising for a company with the performance record and the operational

record of gas Prom. Gas Prom of course, then use sanctions as a shield, claiming that they could not repair these turbines given sanctions, So of course it depends on who you ask. But in a lot of our pieces, we've highlighted how weak some of the arguments have been

the gas Prom and Russia have put forward. And the best example of that is how gas Prom still has available pipeline capacity through the Ukraine which it is not using currently and has not been using for quite a few months now, despite now sending less than its contractual obligations to a lot of its European customers. Let's then think about what this reductions apply to Europe has really done to gas prices, because we all acknowledge that, you know,

gas is an important part of the energy system. It's an important part for heating for homes, it's an important part for manufacturing. It really touches so so many parts of the economy. And one of the primary reasons why people have said that it is linked to in many respects this high inflationary period that we're in right now. So what has been happening with Russian gas prices? Because I know that it is definitely more than gas traders that are keeping a close eye on gas prices at

the moment. So the European gas market is largely liberalized, right, your price is set by that marginal supply source. And with the decline and Russian gas, Europe has to import a lot more energy, but specifically spot llergy, so liquid natural gas coming to us from ships instead of through

these pipelines historically in Europe exactly. But also you know a lot of your buyers globally who import energy like that, they're signed up to these long term fixed price contracts which are set generally as a proportion of the oil price, and so a lot more stable. What Europe has to do is capture an exorbitantly large share of the global spot market, right. So that's in competition with Asian buyers.

I think, Aaron, do you want to add in there about just what pushes and just how that competition is unfolding and pushing both European and global energy prices to these record high levels. So the situation you find itself is the fact that it now needs to replace, as Stefan mentioned, a large proportion of its baseline or baseload gas supply. In order to offset this, they have to attract energy and that is via the global spot market. As Stefan mentioned, a large proportion of energy volumes is

tied under long term agreements. That's around seventy of the total llenergy supply. And how long is a long term agreement anywhere between fifteen and twenty five years, and they're having negotiations to bring in some shorter to medium term contracts ten to twelve years, but they haven't really gained much traction. And how much of the market is actually

already tied up in these long term agreements. So you got four hundred in two million metric tons of available leergy supply se that is locked up in long term agreements. So Europe is now battling for that remaining thirty in which of its own supply is all on the spot market. So it's incredible competition, and it only takes a brief cold spell in markets such as China Japan, and then we could see a substantial amount of llergy being displaced to other markets and that will have a big impact

on how Europe restocks through the winter. In terms of prices, what Europe has have to do is have to maintain a premium over Asian lergy prices that is the Japan Korean market, and then this constant competition to try and import spot ellen g has meant that the TTF has had to be priced that significant premium, and this kind of disrupts the forward curve as well, because all though prices have fallen from its significant highs due to mild

weather and the fact that Europe has restopped sufficiently through the first month of the gas winter, there's always that need to import energy and that is going to keep prices high. We're in the first month of the gas winter. How closely are you guys watching the weather every morning? Yeah? Very It's a it's a daily ritual for us. So it's been incredibly mild in Europe and I think that's one factor which is why are October demand to date,

So we're recording this on the October. So through October demand has come in around below your five year average, but only half of that is due to the weather, or approximately half. I think it could even be a bit less. Your weather is incredibly important when it comes to your winter gas demand. I think your rangeing outcomes over the last ten years is around ten billion cubic meters either side, which is, you know, around of your

storage capacity. And this has to do with the fact that so much gas is used for residential heat or I guess buildings generally exactly, So thirty of your winter gas demand is residential household heating, at another ten for commercial buildings. Right of your winter load is gas is just for heating. And this is what makes it your

gas demand so seasonal. Your gas demand in peak winter is about four times higher than your gas demand in your low points of your summer, because when you get into December January, right, you have that really big proportion of heating demand. So yeah, whether it really impacts how the balance evolves and how demanded supply shape up. So in two scenarios, either a mild winter or a particularly cold winter, is there enough in the gas stores in Europe to make it through this winter? Yeah, I think

we argue that that's definitely the case. Our latest forecast for European storage inventory evolution over the course of this winter suggests that European storage is in the smaller smaller region of Europe we cover will be around full. So that's around thirty billion cubic meters, and that is enough to absorb even the coldest of the last thirty winters or the remainder of the winter because we're not forecasting

from November on pretty comfortably. So whether variation is important, but I think for us what's increasingly important is also your demand destruction variation, which the market is still incredibly uncertain about. So let's talk about demand destruction. The European Union is set a target for reducing gas demand. What is that and where did that come from? So, as Aaron highlighted, there is not enough l energy to entirely

replace Russian gas. You know, even if we attract really high proportion of this global spot share, you know, we can only replace around six really of the Russian gas volumes we usually got. Means that the market still has a lot of work to do to balance upside from other supply sources, especially now when you're increasingly thinking on a year on your basis is really limited, right, So the demand side of the balance has to shift in order for us to have enough gas in storage. So yeah,

that's why this policy was put in place. It was from that realization of the fact that without changing our gas consumption, we still forecast that we would run out of gas and storage and an average winter by the end of March. So can you elaborate a little bit on what demand destruction looks like and is this come in the form of rationing, does it come in the

form of you know, conservation. I'm even thinking a little bit about actually this summer and how there are many parts of the world that actually suffered from severe droughts and there was a lot of discussion around water rationing. Maybe this is the same conversation around electricity use and home heat. Yeah, it's exactly that, right. So the worst case scenario, which is a scenario which our forecast really think will avoid, is rang where government steps in and

forcibly allocates a resource. Right, But exactly as you point out, before you get to that stage, in many cases you have campaigns to reduce consumption. You know, your classic UK summer host pipe band being the best example of that. So talking about this target of fifteen percent, which the EU set, that's cross sectoral right, So it's fift of

our total gas consumption. When we think about the fact, as highlighted that in the winter, almost of your gas demand is used in buildings or so called local distribution zone that's smaller gas pipe networks which we commercial residential buildings, it becomes pretty apparent that we have to cut demand in that sector in order to meet these targets, right, we can't just let industry and power demand do all

of the work there. So, you know, governments are balancing this really hard political question of protecting consumers from high prices and not wanting to part us on higher energy prices to consumers, while still needing to encourage demand reduction and us all to be a bit more sensible with how we heat our homes and the energy we consume.

I think that's a very important point. That's definite makes that governments must strike this fine balance because as soon as you start to intervene with stuff such as a price cap, you start to disrupt market dynamics in terms of letting the price do the work. So up to this point, high prices have allowed sufficient demand structure to take place. But as soon as a gas price cap, as soon as that's implemented, you can start to see some of these things. Let's say, this demand structure not

playing out as we have seen. So, for example, if we start to cap the price of gas and you know, demand picks up elsewhere, do we lose that energy supplied that we were able to import because of the price of wholesale gas. Another point being the fact that if you cap the price of gas, such as what happened in Spain, you could actually increase demand in the power sector because you could start to see incremental cult to

gas switching once again. And when you start to play around with price mechanics, then you're not really letting the market do the work, and the market should balance based off price. So I think it is a very fine balance on how much the government does intervene. Now for

a very short break, stay with us. Well, there's the industry end of things, and then there is the individuals who in some respects you're seeing you know, residential individual homes paying multiples of what they are paying last year, and not everyone can afford. That is their discussion around

keeping industry and individuals separate. In terms of how this is implemented, I think it's worth coming back to, like how pricing works for residential consumers and also for large parts of your industrial consumer base, to understand that link with the wholesale market, because I think that's also critical to understand why we went so high, but also why we're coming off now in terms of your prices gas demand for wholesale consumers is often set through a variety

of tariff structures which are not directly related to your wholesale price of gas right there, based on like an average price your wholesale importer has had to pay over twelve months, say, you know, there's often extra fees or subsidies, which means that the price a wholesale consumer pays is generally quite lag compared to your wholesale price movements. When we come to that really explains why it's really hard

for the market to calibrate at the moment. Because we've said that the market needs demand destruction, but a lot of the sectors where you had to reduce that demand only saw an increase in prices well after your wholesale prices had already gone up by multiples of ten in a year, right from the summer of the summer of one. Now we're in a situation where your average wholesale price over the last year is probably like twenty times roughly,

let's say over the summer. And of course, then, as you rightly point out, no residential consumer or customer or small business can really deal with that. So coming back to what governments now face, right you're facing between balancing this book of where some of your importers and the people who supply downstream gas have to pay wholesale prices which are up by multiples, you know, in the tens, twenties, thirties even higher, and residential gas consumers of course cannot

pay that multiple. So yeah, there was a bound to be struck here, and many governments have put in price caps. You know, across the perimeter of countries we cover in northwest Europe, including the UK, your average residential price is going to increase somewhere from sevent to two pad to levels over the course of this winter, so still a very substantial price increase. But for some consumers that's that's

not the case, right. You know, we have a lot of chat in the London office that for some of us here, because we might live in a well insulated new building block, our energy prices are actually going to be going down this winter, which is really comes back to how difficult some of these policy decisions are and how they need to really keep a very close eye and on that link between what's happening on your residential consumer side and how that affects your wholesale price evolution.

So there's getting through this winter, which is definitely front of mind, but fundamentally, unless something changes, we're going to be in the same situation next winter as well. So then this brings me to this question around as we look forward, and as we look at a lot of net zero targets that many companies and countries have out to.

There was a lot of discussion about actually phasing out natural gas at some point and building enough of various other forms of capacity in order to at least dramatically reduce the dependence upon this flexible capacity which in many

respects has been supporting wind and soul. Where do you see the conversation right now moving towards installing more renewables in order to create domestic supply or the other thing that we're also seeing, which is in your already referenced this, you know, switching between coal and gas and this almost coal renaissance, and also this discussion now that's re emerging around nuclear and things that provide baseload energy. I think it helps me to think about this by splitting those

things into three different baskets. I think, given how quickly Russian flows have declined in the short term, we really need some of this emergency demand destruction for the medium terms. So for me, that kind of means out to now, I think to see how Europe's approaching and thinking about this, or at least hoping to do this. The document that and the policy that needs to be looked at is

the European Commissions Repower You Plan. So this was a plan released in March two in response to the Russian invasion, and it was supposed to change European energy consumption so that we would be rid of our alliance on Russian natural gas. When I like talk about this plan, I used the phrase really like turbo charging. The energy transition. The bulk of demand reduction and the bulk of what offsets this lost Russian supply is electrification, insulation, switching to hydrogen.

It's it's around seventy of the targeted demand reduction, right, so a thirty percent reduction in our European gas consumption.

By However, it's important to highlight that that plan also included two things which I grouped into a bucket which I called of kind of have referred to previously as compromises, which includes measures such as potentially extending the life of some cold plants reevaluating some of the decisions we've made on nuclear as you point out, data which will be needed realistically by and the fundamental reason for that is that some of these decorganization measures such as hydrogen development

you know, won't take place before and substantial quantities. And then the third bucket, which becomes even more critical and absolutely necessary given how quickly Russian flows have fallen, is outright demand destruction and reduction of consumption. Right. So the European Commission admitted that high prices and outlook for sustained high prices would have caused some demand reduction, but it was only really in the region of around billion cubic

meters if I remember correctly. You know, I think this year we're looking at our forecast of being around sixty billion cubic meters. Yeah, for for repower you and the European Commission Medium time Plan, it's it's very heavy on that decorganization piece, which tied into the long term strategy, right, it's tied into the long term strategy of decobonization, And a lot of these policies are actually only acceleration of things which were all ready discussed. And fifty five, which

was the European unions checkpoint to net zero. So we've seen prices quite high recently, and then they have since we first made our outlook for this winter period. What is the medium term outlook for prices in Europe and what do we think is going to happen among all of this volatility. So if we look at the wholesale natural gas benchmark in Europe, this is the TTF. If we look at the forward curve out until about we

can see elevated prices persisting. And this is predominantly due to the fact that, as we mentioned earlier on that it needs to replace a lot of this Russian gas with expensive lergy. Expensive llergy due to the fact that it's procured on the spot market and it needs to outcompete other buyers on a global basis. Structurally, we don't really see a large increase in lique faction capacity until

Qatar's mega expansion comes online. This is around This will add another seventy two point five million tons per annum, So this is a huge boost in energy supply, but there's a long way to get there. So in the meantime, Europe has to import a lot of llenergy from North America, US supply into Western Europe typically accounts for around thirty five of Europe's overall llergy share, and outside of this

they're procuring llenergy from Qatar and Algeria. The only difficult thing is the fact that, as Stephan mentioned in regards to Europe's decarbonization strategy, despite Europe, you know, building out llergy import capacity, they are still reluctant to sign long term agreements. This is because for them, signing long term agreements kind of signals to the rest of the world that you know, we're still pinned to gas and we're

not really decarbonizing as we intended to. Let's say this year, for example, Western European markets that we cover in our perimeter, we're gonna lose around eight point five million tons of llergy from long some contracts expiring. This then further exposes us to the spot market once again, and then the US again will look to deliver volumes into into Europe. So the US is a major beneficiary of high global

gas prices because they also source markets in Asia. But when Asian demand lowers, as we've seen this year, they kind of just shift their supply into Europe. But then once again, it all depends on you know, it's just constant battle that will have to take place over the next two seasons. Well, and we're talking a lot about battles for and consumers in terms of pricing and then policies that are being passed along. But really the willingness to pay these higher prices at a country level comes

down to some wealthier and potentially less wealthy nations. How is that emerging and are there countries that are essentially being forced out of the market. Yes, certainly. I mean some of the emerging markets in Asia, such as Pakistan and Bangladesh, they are unable to procure lergy at prices north of thirty five dollars MMB. To you, what this does is the fact that this strains their power supply

margins and they've had to implement rolling blackouts. Even countries such as India, which you know has seem to be climbing the global scales in terms of economic powerhouses, they are even struggling to procure llenergy at sufficient rates at these high prices. So you know, when Europe's importing such high volumes of llergy, they're actually taking away supply from these other markets as well. So it's not just a European energy crisis, it really is a global supply crisis. Yeah.

I think, as Aaron pointed out earlier, right, this is not just the theme for the short term, it also

continues into the medium term. I think that's a great chart from our medium term llergy outlook, which compares our forecast for year on year, so from the previous year to this year, and you can see that South Asian llen G flows I think it declined by twenty two million tons in our scenario, right, So that's quite a lot of gas which we now expect not to be flowing to South Asia in fundamentally because Europe needs that

gas and will probably outbid for it. So not even in the not just in the short term, but in the medium term. You're seeing this really have ripple effects on energy policy globally. So you would already referenced that there are new leng production facilities there are potentially going to be coming online parts of the Middle East. But between now and then there are existing exporters like the

United States. Do you see any movement in terms of increased supply in order to meet all of this global demand? I think this is the fundamental reason for why we expect llergy prices to remain elevated and why we expect this competition for llergy on the global scale to to remain hot is the fundamental fact that supply editions between

now and then are rather limited. So between now and then, the global LLENG market isn't really going to get a lot looser unless buyers manage or other buyers, So you're looking at places like Japan and Career and potentially some more price sensitive markets start consuming and demanding a lot less l en G. Additional point to flag here is that in our medium term outlook we highlight a low case scenario for which takes a lot of the Russian projects,

which was your second biggest source of energy capacity additions, out of our balances. So again this is an issue with sanctions and project partners not wanting to get involved

in Russian up scene gas projects. Returning a bit more short term, this is a real fundamental problem for Europe is that apart from l en G, there is very limited short term supply upside, and we've used a lot of that already when it comes to thinking about Norwegian flows increasing slightly because they're reducing some of the oil production to push out more gas. I guess the one source of supply close to home, which is starting to

produce more gas. Again as North Africa, you've seen some contracts, especially with Italian developers developing new production and of Africa, and you've really seen a big tic up and flows from North Africa to Europe. But again there's a there's a pretty marginal volumes when it comes to the overall picture of things. So this is another reason why I think a lot of people are focusing on the demand

rather than the supply side of the equation. So we've talked about the willingness or maybe put better, the ability to pay of wealthier nations versus developing nations in terms of this really high gas price that we're experiencing in the moment, as well as individual retail consumers. But what industries, and I'm thinking of you know, different manufacturing industries that are very dependent upon natural gas for their production. What

industries are under the most strain. You're completely right, Dana, and as you kind of pointed to, it's the most energy intensive industries particularly, I think you'll fertilize the production which relies on gas not just for its energy consumption, but also as a feedstock. You've really seen substantial cuts to European production in that space, but also chemicals production.

More generally, other industries steal. Given the link with power prices, aluminium producers are really under threat in Europe, and realization of this is really causing governments to take energy prices for industrials more seriously because they realized that this could really have long term complications for the industrial future and the industrial development of Europe if they don't step in and helps support industries through this difficult period. So let's

fast forward not that far into the future. You'd reference that the gas here is split into you've got winter and summer. We arrive at summer. What things are you watching? Summer in large ways is just a repeat of the winter. Right. It's about replacing Russian gas. But what makes this more difficult is that a lot of your upsides year on year have already been utilized a right, so you're losing Russian gas, but you've already pressed a lot of the

levers that you have to replace that gas. So this really drives an opinion in the market that you know, the twenty four could be the real test and this winter where we actually had significant volumes of Russian gas to help refill European storages is a bit less challenging, I think for us when we look at it fundamentally, because demand is lower in the summer. It comes down to the variation we potentially see in the global energy market.

And you're completely right there, Stephen, and just looking at Asian demand and how that recovers, that could significantly displace a lot of spot energy volumes that you know we really need during the summer for the injection period. So just keeping an eye globally and how the demand picture

from the allergy side develops. It's about that composition again, isn't aren't like you know, our base case forecasters for Europe to roughly pull sevent of your global spot supply, but you know that relies on the outbidding Asia for

these volumes if it chooses not to. If it chooses is a weird word to use from market, but you know, should TTF prices or European energy prices fall below those j k M levels, then you know you could see greater proportion of that supply heading to Asia, really taking away the gas we need to inject into storage this summer. So I've been living in the UK for a long time now and I think one of the cliches about the UK is that people are really obsessed with the weather.

It's a lot of conversation about whether or not the sun is shining or it's raining, and what the temperature is. And I think that this plays well on the British obsession with the weather. We will be probably all checking now every morning after listening to this podcast, seeing what's in store this next winter. Stefan Aaron, thank you very much for joining us today and talking to us about the winter gas outlook and what we need to be considering as we think about prices and policy and you know,

really what's happening in global gas markets. Thanks a lot, Dana, thank you. Today's episode of Switched On was edited by Rex Warner of gray Stoke Media. Bloomberg any F is a service provided by Bloomberg Finance LP and its affiliates. This recording does not constitut, nor should it be construed as investment advice, investment recommendations, or recommendation as to an

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