Erosion of Qatar’s dominance in LNG could drive demand responsiveness
The recent Saudi Arabia-led confrontation with Qatar could drive an increase in the use of flexible liquefied natural gas contracts and thus allow demand to be more responsive to price. Erosion of Qatar’s dominance in LNG could drive demand responsiveness.
As we noted in “US natural gas – international demand unlikely to absorb domestic glut”, the liquefied natural gas (LNG) market is in the midst of change. Qatar is the world’s largest producer of LNG with most LNG transacting in long-term contracts at fixed price. However, the emergence of Australia and the US as large players in the market will lead to growth in flexible contracts. Based on EIA projections, the US is likely rise from being a negligible player (less than 1% of global supply) to the world’s third largest (after Qatar and Australia), with the US LNG market growing six-fold by 2020.
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This development could resemble the evolution we saw in the oil market in the 1970s and 1980s
This development could resemble the evolution we saw in the oil market in the 1970s and 1980s. Until the late 1970s, almost 90% of the world’s crude oil was sold under long-term contracts at prices set by the major oil companies. OPEC produced 67% of the free world’s crude oil, allowing it to dominate the price and quantity of oil sold. In the late 1970s and early 1980s, market-based spot and futures trading gained in importance as production from the non-OPEC countries surpassed OPEC oil production and as non-OPEC producers went to the spot markets to build market share. By the end of 1982, almost half of all internationally-traded oil was traded on exchanges using flexible futures contracts.
Prices driven by local fundamentals
Unlike crude oil, the global natural gas market is fragmented with prices driven by local fundamentals. LNG, which is gas turned into liquid and then shipped before re-gasification at destination, represents a small proportion of the local natural gas market. For example, the price of natural gas in the US is less than half the price of natural gas in Europe or Asia. While the US natural gas futures (Henry Hub) is the most liquid market and is used as main benchmark, prices move in response to domestic fundamentals leaving it a poor hedge for natural gas prices in other countries. In addition, the size of the LNG market is currently too small for LNG to truly impact on natural gas futures prices.
Considering this, the recent Saudi-led confrontation with Qatar can pose a risk to global supplies of LNG. Although shipments from the country have not been affected as yet, we cannot rule out an impact if the impasse intensifies. We believe that it could be a catalyst to quicken the migration away from long-term fixed contracts with Qatar to flexible contracts in countries like US and Australia. With importing countries eager to maintain energy security, they may demand Qatar also alter contracts to be more flexible (especially for new contracts).
Nitesh Shah, Research Analyst at ETF Securities
Niteshis a Commodities Strategist at ETF Securities. Nitesh has 13 years of experience as an economist and strategist, covering a wide range of markets and asset classes. Prior to joining ETF Securities, Nitesh was an economist covering the European structured finance markets at Moody’s Investors Service and was a member of Moody’s global macroeconomics team. Before that he was an economist at the Pension Protection Fund and an equity strategist at Decision Economics. He started his career at HSBC Investment Bank. Nitesh holds a Bachelor of Science in Economics from the London School of Economics and a Master of Arts in International Economics and Finance from Brandeis University (USA).
US natural gas international demand unlikely to absorb domestic glut
Commodity Research US natural gas international demand unlikely to absorb domestic glut
Highlights
Expansion of natural gas production in the US at a time when output of other fuels is also expected to increase will mean that the US will become more reliant on exports.
The US is reliant on NAFTA members for export demand. The risk of disappointment at a time of trade frictions seem high. An increase in inventory over the next six months seems a likely outcome.
The US’s role in the global liquefied natural trade is likely to rise. The US could prove to be a positive disruptive force, improving global natural gas security and pricing infrastructure. But it is unlikely make a material difference this year and thus exports are unlikely alleviate the US’s production glut.
End of gas as a transition fuel?
In 2014 President Obama labelled natural gas a “bridge fuel” to help the US meet a lower carbon emission target, before further deployment of renewables. The promise of less red tape to allow businesses to utilise this fuel was supposed to have lifted demand. However, a pledge from the new Trump administration to bring back coal jobs (and presumably increase coal supply) threatens to make gas’s competitor cheaper and will likely weaken demand for natural gas.
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Production expansion
US production of natural gas is set to expand strongly this year and next on the back of legacy investment when prices were higher. This reverses the decline in production in 2016. Meanwhile US consumption is expected to decline this year (before potentially recovering next year).
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Net exporter of gas for the first time
With domestic production outstripping consumption, the US’s reliance on imports will fall significantly. In fact, the US is likely to become a net exporter of natural gas for the first time in calendar year 2018 (and as early as Q3 2017 on a quarterly basis).
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Risk to inventory increase…
If foreign demand for US gas remains weak, we could see inventory rise above seasonal trends, possibly by more than a standard deviation above average, as we saw in 2016.
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…especially if foreign demand weakens
The risk of foreign demand being weak is material. Most of US’s exports is via pipeline and truck (90%). In terms of pipeline and truck exports Mexico accounts for approximately 70% of demand, while the remaining 30% goes to Canada. Both of these countries are being antagonised by the US’s stance on trade. The US’s provocation to withdraw from NAFTA is at the centre of the discord. The US’s threats to ban lumber and dairy imports from Canada and build a wall at its border with Mexico could be met with tit-for-tat retaliation. Canada is already threatening reciprocate with a ban on US coal. As Canada is an important transit point for US coal exports to Asia, that risks bloating US’s domestic coal supplies further (and thus presents a further downside risk to gas).
Moreover, it is difficult to believe that either Canada or Mexico will seek to expand their demand for US gas in an era of cheap oil (both countries are net oil exporters).
US as a disruptive force in the global LNG market
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About 10% of US production is exported in liquefied natural gas (LNG) via vessels. The US is a relatively small producer of LNG, accounting for only 1% of global exports, but is growing rapidly. The US’https://www.etfsverige.se/etfbloggen/?s=Australias LNG growth trajectory, based on liquefaction capacity currently being built, will drive the US from being a negligible player to become the third largest after Qatarand Australiaby 2022.
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LNG relies on liquefaction infrastructure in exporting countries and regasification infrastructure in importing countries. There is little volume flexibility in global liquefaction infrastructure: apart from a significant portion (15%) that is offline due to operational issues, liquefaction operates at close to full capacity. Traditionally, global liquefaction facilities enter into long-term contracts – 80% of which are signed before the final investment decision to build a plant – and thus offer little flexibility to respond to spot prices. The US is a notable exception, preferring flexible destination and short-term contracts. The US’s rapid growth will offer spare capacity.
In terms of regasification, infrastructure lead times are much shorter. Today, global LNG import capacity is roughly three times the level of global export capacity. In theory, there is plenty of regasification capacity to absorb an expansion in liquefied exports.
The market is not accustomed to be responsive to prices because of supply inflexibly resulting from long-term contacts. However, the rapid growth of US LNG – that is generally not tied to long-term contracts – could disrupt the status quo and allow importers to opportunistically buy gas when prices are cheap. The US could become a swing producer in the natural gas market, buffering supply disruptions elsewhere and allowing importers to flexibly increase/decrease gas in their power generation mix in accordance with price. We view this a positive development from a global gas security perspective as well as its impact on smoothing the supply that could be subject to boom-bust cycles.
However, we don’t think that the long-term growth in foreign demand for US gas supplies will have a material impact on US gas prices this year, not least because demand in Asia and Europe (the largest import markets) is currently very weak.
The information contained in this communication is for your general information only and is neither an offer for sale nor a solicitation of an offer to buy securities. This communication should not be used as the basis for any investment decision. Historical performance is not an indication of future performance and any investments may go down in value. This document is not, and under no circumstances is to be construed as, an advertisement or any other step in furtherance of a public offering of shares or securities in the United States or any province or territory thereof. Neither this document nor any copy hereof should be taken, transmitted or distributed (directly or indirectly) into the United States. This communication may contain independent market commentary prepared by ETFS UK based on publicly available information. Although ETFS UK endeavours to ensure the accuracy of the content in this communication, ETFS UK does not warrant or guarantee its accuracy or correctness. Any third party data providers used to source the information in this communication make no warranties or representation of any kind relating to such data. Where ETFS UK has expressed its own opinions related to product or market activity, these views may change. Neither ETFS UK, nor any affiliate, nor any of their respective officers, directors, partners, or employees accepts any liability whatsoever for any direct or consequential loss arising from any use of this publication or its contents. ETFS UK is required by the FCA to clarify that it is not acting for you in any way in relation to the investment or investment activity to which this communication relates. In particular, ETFS UK will not provide any investment services to you and or advise you on the merits of, or make any recommendation to you in relation to, the terms of any transaction. No representative of ETFS UK is authorised to behave in any way which would lead you to believe otherwise. ETFS UK is not, therefore, responsible for providing you with the protections afforded to its clients and you should seek your own independent legal, investment and tax or other advice as you see fit.
US natural gas is currently trading at US$2.74/MMBtu, up from US$2.00/MMBtu in May 2016 (+37%) in response to the warmer weather forecasts. We believe that it will be difficult for natural gas prices to hold onto these gains. Natural gas rally over-done.
The National Oceanic and Atmospheric Administration’s forecast of continued above-average temperatures this summer is likely to keep demand for air-conditioning elevated in the US. Natural gas provides about a third of electric power in the US. However, natural gas inventories remain elevated (more than 1 standard deviation above the 5-year average). Moreover, in recent weeks the net additions to inventories have continuously beat analyst forecasts, indicating that the warm weather has not drawn on inventories as expected.
High natural gas prices would be justified if supply for natural gas was tight, but with inventories elevated, we believe that prices should correct downwards. Although natural gas is trading at a fraction of the US$13.60/ MMBtu peak reached in 2008, production today is more than 50% higher due to fracking increasing supply and inventories. Natural gas is trading at the highest levels since May 2015.
We expect that natural gas prices will soften further as the peak summer demand period passes. Additionally, with natural gas futures currently in contango, taking a short exposure can benefit from a front month roll yield of approximately 2.3%.
Nitesh Shah, Research Analyst at ETF Securities
Niteshis a Commodities Strategist at ETF Securities. Nitesh has 13 years of experience as an economist and strategist, covering a wide range of markets and asset classes. Prior to joining ETF Securities, Nitesh was an economist covering the European structured finance markets at Moody’s Investors Service and was a member of Moody’s global macroeconomics team. Before that he was an economist at the Pension Protection Fund and an equity strategist at Decision Economics. He started his career at HSBC Investment Bank. Nitesh holds a Bachelor of Science in Economics from the London School of Economics and a Master of Arts in International Economics and Finance from Brandeis University (USA).
Commodity ETP Weekly – Investors buy into oil before price rise
• WTI oil ETP inflows surged to a seven-month high.
• Investors buy gold on dips.
• Inflows into US natural gas ETPs hit a 4-month high.
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A hawkish post-meeting statement from the Federal Open Market Committee drove the US dollar (DXY) temporarily higher, suppressing gains in many commodities. However, subdued PCE deflators and muted increases in wages took the edge off upward US dollar pressure by the end of the week and barring any surprises, commodities should be able to trade on their own fundamentals. The week has started off with the release of better-than-expected manufacturing China Caixin and Euro Area PMIs and the market expects a US ISM reading above the expansionary 50 marker, which could provide a cyclical boost for commodity market sentiment.
WTI oil ETP inflows surged to a seven-month high. WTI oil bounced 6.3% on Wednesday following a lower-than-expected inventory build last week. In the run-up to the announcement, investors piled into long WTI oil ETPs (totalling more than US$86.2mn, between Friday and Wednesday), before taking profit on the news, leaving net inflows for the week at US$66.4mn, the highest since March 2015. Many investors correctly believed that the prior week’s excessively high inventory build would not be repeated. Indeed rig counts in the US have been declining for 9 consecutive weeks and are currently 63% below the levels last year. More than US$200bn of CAPEX cuts have been announced across the industry and the effect of the stalled projects will soon bite into global oil supply and moderate the glut. Meanwhile with the Organization of the Petroleum Exporting Countries operating at close to capacity, the traditional role of the cartel – to increase production in times of outages elsewhere – will be compromised, increasing the risk of price shocks in the oil market.
Investors buy gold on dips. The Federal Reserve’s hawkish post-meeting statement send gold 2.6% lower on Thursday, driving US$15.8mn into long gold ETPs on the day. For the week as a whole, we saw more than $31.5mn of inflows into long gold products as investors position for a potential bounce back. With the Fed downplaying global risks and conditioning their next rate move on the domestic market, many see the next two labour market reports as a pivotal guide to the timing of first rate hike in nine years. However, sophisticated investors realise that the payroll numbers in the labour market report are not only volatile, but subject to frequent and significant revisions. Gold’s decline this week could once again turn out to be premature.
Inflows into US natural gas ETPs hit a 4-month high. Natural gas prices surged 11% on Thursday after the release of storage data, which showed inventory building below expectations. Investors bought US$7.2mn of long natural gas ETPs during the week. We are likely to see some profit-taking from this, as inventories still lie more than 1 standard deviation above their five-year average, and prospects for a warmer winter with El Niño affecting US weather could see some of the recent injections being underutilised.
Key events to watch this week. Markets will be focused on the non-farm payrolls numbers out at the end of this week. A disappointing September reading and large downward revisions to July and August estimates has set the tone for a sub-200k consensus expectation for October. However, for many FOMC Governors, including NY Fed’s Dudley, a figure of 120k-150k is enough to ‘push the unemployment rate lower’ and could pull the trigger to vote for a rate hike. Should this month’s reading disappoint, we could see gold rally as rate hike expectations get pushed further out.
Video Presentation
Nitesh Shah, Research Analyst at ETF Securities provides an analysis of last week’s performance, flow and trading activity in commodity exchange traded products and a look at the week ahead.
For more information contact
ETF Securities Research team
ETF Securities (UK) Limited
T +44 (0) 207 448 4336
E info@etfsecurities.com
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• Rising uncertainty benefits gold.
• Net inflows into natural gas ETPs continue.
• Copper rose on revised supply/demand balance.
• Production drop boosted sugar price.
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Non-farm payrolls in the US surprisingly missed expectations by a large 53k, reviving market uncertainty about the timing of rate increases in the US. Weaker-than-expected trade balance data in the US added pressure to the USD. Commodities rose 3% on average as a result. Continued declines in global supply of many commodities combined with further corporate adjustments in production and capital expenditure should continue to lend support to the asset class. The FOMC minutes suggest that a rate rise is still likely to happen late 2015. However, downside risks remain elevated leaving investors in a wait-and-see mode, with October and November payroll figures likely to settle the matter.
Rising uncertainty benefits gold. Gold ETPs recorded net inflows of US$18.4mn for the fourth consecutive week as US non-farm payroll released the previous Friday came out extremely weak at 53k below market expectations. Investors are now looking for signs that the Federal Reserve will still increase interest rates this year. Combined with weaker-than-expected US trade balance, the USD slid 1% over the past week to Thursday while gold price rose 1.9%. Silver ETPs on the other hand, saw net outflows of US$11.8mn, likely on profit taking as silver price surged 7.3% during the same period. Increased volatility in the financial market lent buoyancy to silver, a commodity commonly considered as a leverage of gold.
Net inflows into natural gas ETPs continue. Natural gas ETPs recorded another week of net inflows last week ahead of the winter heating season in the US. While the Energy Information Administration (EIA) expects natural gas demand from heating to be 10% lower than last year, the agency forecasts natural gas price to average US$2.81/MMBtu this year. Prices have averaged US$2.75/MMBtu so far this year suggesting that there is still scope for gains in the coming months. Meanwhile oil was the best performer of the week. Brent and WTI soared 11.2% and 10.5% respectively on the back of declining production in the US according to the EIA latest data. In addition, EIA expects global consumption growth to rise by 1.3mb/d in 2015 and 1.4mb/d in 2016, an upward revision of 100,000 barrels per day compared to September figures. Positive sentiment should remain supportive of prices and eventually translate into flows.
Copper rose on revised supply/demand balance. Copper ETPs saw net outflows of US$8.1mn last week as the International Copper Study Group (ICSG) revised down their forecast for 2015 surplus from 364k tonnes to 41k tonnes in their October report released last week, taking into account larger production cuts as a result of recent corporate announcements. The ICSG also expects copper to be in a 127k tonnes deficit in 2016 as opposed to the 228k tonnes surplus previously forecast.
Production drop boosted sugar price. Lower-than-average rainfall in India combined with excessive rain in Brazil and a production cut in China have reduced sugar global supply, sending the price of sugar to its 7-month high. Sugar spiked 35% since its lowest level in August. As a result, sugar ETPs recorded net outflows of US$5.2mn for the second week in a row on profit taking mainly from ETFS Sugar (SUGA) and ETFS Leveraged Sugar (LSUG).
Key events to watch this week. Chinese trade data will give an indication of demand from the world’s largest commodity consumer. The Consumer Price Index (CPI) and market confidence for the US and Europe will also be in focus.
For more information contact
ETF Securities Research team
ETF Securities (UK) Limited
T +44 (0) 207 448 4336
E info@etfsecurities.com
Important Information
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This communication has been provided by ETF Securities (UK) Limited (”ETFS UK”) which is authorised and regulated by the United Kingdom Financial Conduct Authority.
This is a strictly privileged and confidential communication between ETFS UK and its selected client. This communication contains information addressed only to a specific individual and is not intended for distribution to, or use by, any person other than the named addressee. This communication (i) is provided for informational purposes only, (ii) should not be construed in any manner as any solicitation or offer to buy or sell any securities or any related financial instruments, and (iii) should not be construed in any manner as a public offer of any securities or any related financial instruments. If you are not the named addressee, you should not disseminate, distribute or copy this communication. Please notify the sender immediately if you have mistakenly received this communication. When being made within Italy, this communication is for the exclusive use of the ”qualified investors” and its circulation among the public is prohibited.
This document is not, and under no circumstances is to be construed as, an advertisement or any other step in furtherance of a public offering of shares in the United States or any province or territory thereof. Neither this document nor any copy hereof should be taken, transmitted or distributed (directly or indirectly) into the United States.
This document may contain independent market commentary prepared by ETFS UK based on publicly available information. ETFS UK does not warrant or guarantee the accuracy or correctness of any information contained herein and any opinions related to product or market activity may change. Any third party data providers used to source the information in this communication make no warranties or representation of any kind relating to such data.
Any historical performance included in this document may be based on back testing. Back tested performance is purely hypothetical and is provided in this document solely for informational purposes. Back tested data does not represent actual performance and should not be interpreted as an indication of actual or future performance.
Historical performance is not an indication of or a guide to future performance.
The information contained in this communication is neither an offer for sale nor a solicitation of an offer to buy securities. This communication should not be used as the basis for any investment decision.
ETFS UK is required by the United Kingdom Financial Conduct Authority (”FCA”) to clarify that it is not acting for you in any way in relation to the investment or investment activity to which this communication relates. In particular, ETFS UK will not provide any investment services to you and or advise you on the merits of, or make any recommendation to you in relation to, the terms of any transaction. No representative of ETFS UK is authorised to behave in any way which would lead you to believe otherwise. ETFS UK is not, therefore, responsible for providing you with the protections afforded to its clients and you should seek your own independent legal, investment and tax or other advice as you see fit.
Risk Warnings
Any products referenced in this document are generally aimed at sophisticated, professional and institutional investors. Any decision to invest should be based on the information contained in the prospectus (and any supplements thereto) of the relevant product issue. The price of any securities may go up or down and an investor may not get back the amount invested. Securities may valued in currencies other than those in which there are priced and will be affected by exchange rate movements. Investments in the securities which provide a short and/or leveraged exposure are only suitable for sophisticated, professional and institutional investors who understand leveraged and compounded daily returns and are willing to magnify potential losses by comparison to investments which do not incorporate these strategies. Over periods of greater than one day, investments with a short and/or leveraged exposure do not necessarily provide investors with a return equivalent to a return from the unleveraged long or unleveraged short investments multiplied by the relevant leverage factor. Investors should refer to the section entitled ”Risk Factors” in the relevant prospectus for further details of these and other risks associated with an investment in any securities referenced in this communication.
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