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Monday, 11 December 14:50 (GMT -05:00)



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For investors: what are the unknown reasons of gas scandal in Europe?


 

Investment news, Russia. August in Russia have recently been characterized by world media as an unlucky (or even “cursed”) month, during which only troubles are to be expected (from default in 1998 to war with Georgia in 2008). This time in August it “burst” at the place, where nobody would expect – in most trouble-free gas sphere of Russia.

Foreign companies, which are not satisfied with, as they suppose, non-market and high gas prices, lay one legal complaint against Gazprom after another. Experts of Forex Academy and Masterforex-V Stock Exchange Trade singled Russian “Gazprom”:
- GasTerra. Management of the Netherlands company applied to court with a requirement to change the terms of long-term contract of fuel supply;
- Edison. At the end of July Edison company (Italy) managed to receive a €200 mln. concession from Gazprom in Stockholm Commercial Court;
- E.On. After futile negotiations with Russian gas monopolist E.On group of companies (Germany) and then a German company RWE applied to court. Anyway, both firms are the largest clients of Gazprom in Europe (almost 50% of all Russian gas supply to Germany in 2010 was obtained by the same E.ON). By the way, Germany imports about 40% of consumed gas from Russia and about 25% – from EU;
- GDF Suez. It is rather likely that GDF Suez (France) and companies of the Baltics are next in the row;
- “Naftogaz of Ukraine”. Prime Minister of Ukraine Nikolai Azarov has recently made a statement about a “enslaving” formula of gas price (let us remind that it includes the basic price of $450/ths. cub. m. as well as a peg to residue and gasoil quotations with a 9-month delay). Ukraine is threatening to break the contract, which was concluded in 2009 by Ex-Prime Minister Yulia Tymoshenko, as illegal. Experts have started talking about the possibility of new gas war starting in winter already. Viktor Yanukovych, though, promises not to resort to legal procedure, hoping to reach a compromise. However, as reported by media, during his recent meeting with Dmitry Medvedev in Sochi, gas price has not yet been agreed on (maybe, it was happening as described in a well-known joke; namely, Gazprom suggested Ukraine to buy gas at the cost of $5000/ths. cub. m., whereas Naftogaz of Ukraine suggested a reasonable price of $50. After this both parties promised to continue negotiations).

So what is currently happening at European gas market?

Is it its liberalization and demonopolization, as claimed by consumers of blue-sky fuel, or is it a common repartition of gas market that is behind the appeal to Gazprom to play by international rules and to compete on equal terms, what energy producers are certain of? It seems that discrimination of Russia in European gas business bears too system-based character. There is a joke around that there exists a threat that in case of war conflict neuro-paralytic gas will be piped by Gazprom. Let us try to understand this very complicated gas cobwebs.

Step on it… or reasons of “gas” frictions

Analytics of Moscow and Central FD of RF Trader and Investor Community of Masterforex-V Academy suppose that, generally speaking, it is eternal that underlies the gas conflict; namely, the seller wants to receive maximum for his goods, whereas the buyer wants to pay minimum. It is obvious that in such earnest contest every party has a full range of indisputable facts and convincing arguments up sleeve. Let us consider them in detail.

Major arguments of gas customers:
Gazprom sells expensive gas to Europe (current prices at world gas market are considerably lower). Due to this, entire states and separate companies suffer considerable losses. For example, for Ukraine due to the price rise of oil, which has a peg to gas price, the cost of blue-sky fuel during the 3rd quarter will rise to $350/ ths. cub. m., whereas during the 4th quarter it may exceed $400 (to compare, during the 1st quarter gas cost about $264, whereas during the 2nd it was almost $296). Ukraine believes that a reasonable price of fuel is to amount to $200. if to speak about companies, then, according to certain data, the net loss of E.ON group of companies as of June 30 reached $33.6 bln., which threatens with a mass dismissal to its staff. Nevertheless, the same Norwegian gas is 20% more expensive than the Russian ones.
peg to oil prices has become outdated long ago, it is high time to refuse from it. Customers pay attention to the fact that oil prices remain at a high level even though there exists an evident oversupply at gas market.
spot gas prices  are considerably lower than the contract ones (let us remind that spot price is a market price, at which at a present time in the present place goods are sold on condition of immediate delivery). Thus, in July the contract gas price on condition of delivery to Germany ($436/ ths. cub. m.) was $100 higher than its spot price, etc.

Way out for investors: what do Gazprom partners suggest?

European wholesale customers, partners of Russian “Gazprom”, want either to make pipeline gas prices independent form oil prices and make a peg to spot prices, or to receive considerable discounts. By the way, E.On has already managed to peg a part of supplies (16% of contract volume) to spot prices, having taken advantage of the fall of fuel demand during the crisis. Speaking about Ukraine, it would like to substitute the price of gasoil for coal in the formula of the cost of Russian gas.

In general, today doubt is cast upon Gazprom principles of price formation, which have passed through life. Russian gas monopolist, suspecting that the case is about a common desire to pick the pockets of gas producers, obviously refuses to lower gas prices. We admit that it has more than enough arguments for this.

The main arguments of “Gazprom” as a monopolistic gas supplier are:
setting any formulae of gas price is the country’s right. The head of Gazprom Aleksei Miller reminded that the current system of gas trade in Europe (system of long-term contracts and peg to oil price) was invented several decades ago by European entrepreneurs themselves.
unfair gas price. Gas, according to “Gazprom” management is, on the contrary, underestimated, as the prices do not correspond to investment expenditures on its recovery, which keep increasing one year after another;
lowering Gazprom prices will hit its income. Meanwhile the company is seriously engaged in increasing its capitalization: develops new deposits, builds gas-processing plants, and lays gas pipelines. All these are long-term cash-consuming projects. It has already been claimed that building Nord Stream will cost €8.8 billion, and expenses on South Stream are estimated (for example, Der Spiegel) as more than в €20 billion. However, gas business in Russia certainly is highly marginal (the difference between sale price and production cost). Net income profitability is at the level of 27-30%. It is now clear why children stopped writing letters to Santa Claus, for they are now writing to Aleksei Miller. However, the case is not only about Gosprom expenditures and income. Ceratin data claims that it provides about 20% of revenues into the federal budget, whereas the input of entire oil and gas sector into Russian GDP amounts to about 20% (it is officially claimed to be no more than 8%). However, a leading German expert in the sphere of energy Claudia Kempfert supposes that if Gazprom refuses to grant price concessions to German companies, it will lose much more; for example, such important client as E.On.
taxes  and the cost of transit. If Europe wants a considerable lowering of the cost of gas, which is purchased by import, why not to reduce taxes and the cost of transit. Thus, for example, the share of German gas-distributing companies takes up from 40 to 70%; the rate of transit amounts to $1.7-2.1/ths. cub. m. for 100 km. (in Hungary it is even $9/ ths. cub. m.), whereas its real production cost is 30-40 cents/ ths. cub. m. for 100 km. This is where superprofit is gained.
cost of technologies. Technologies in gas business require large capital expenditures and long payback periods, which, in its turn, dictates the necessity of long-term relations between suppliers and customers. It is one of the reasons why today only 9% of gas in Europe is sold by short-term deals.
spot market as a way out from the situation. Spot market cannot be a substitute for long-term contracts, as it is needed for quick purchase of additional gas volumes. Moreover, as claimed by Vice-President of Russian Gas Society Oleg Zhilin, there exist certain gas transportation structures, which are required for a peg to spot market. Besides, gas prices at spot markets often exceed contract gas prices (for example, in winter). This means that tail will wag dog. Aleksei Miller has rightfully mentioned that for some reason 2-3 years ago when spot market prices were considerably higher than the contract ones customers were satisfied with the long-term price formula. Moreover, it is expected that not later than in 2012 the price gap between pipeline gas and gas at spot markets will disappear. In general, as the saying goes, Europe does not have the spirit to recognize our rightfulness, and it does not have enough gas to enforce its own.

Moreover, all these arbitration procedures take much time. According to German media, the results of proceedings are to be expected in 2012-2013. And then either a padishah perishes, or a donkey dies. However, Gazprom usually grants concession, but only to the trusted partners. What Russian monopolist is really afraid of is a chain reaction, the fact that other customers can also require discounts. It is not concession that is dangerous, but the precedent. The case with Italian company Edison, which has already beaten concession from Gazprom by court, as supposed by a senior analytic of “Arbat Capital” investing company Vitaliy Gromadin, is not a precedent, for Italian prices last year were by 22% higher than in Germany. Nevertheless, as supposed by many experts, under the pressure of foreign consumers Gazprom will have to gradually surrender its principles and positions.

Giving gas to the world… or perspectives of world gas market for investors

At the first glance, Gazprom situation truly is very intricate: since this year Croatia has stopped importing Russian gas, having substituted it with Italian company Eni, and Bulgaria is intended to cut the purchase of Russian gas 4 times, having refused from long-term contracts for the next 2-3 years. A word immediately spread in Europe that Gazprom will capitulate soon, that Russia is losing its leadership in gas transit, etc. It is true that drastic changes are happening at world gas market in the recent years. What are these global impending threats of traditional gas suppliers?

According to the experts of Masterforex-V Trading Academy, the most serious existing threats are the following:
1. Broader use of liquid petroleum gas (LPG) worldwide. While Gazprom is building extremely expensive pipelines, many European consumers switch to liquid petroleum gas. Serious LPG capacities have recently been introduced worldwide. Let us look into benefits and drawbacks of liquid petroleum gas.

Undeniable benefits of LPG include the following:
- it increases flexibility and mobility of delivery. It is for this reason that LPG is economically sound for entering distant markets;
- it reduces transit risks, it does not oblige the supplier to be strictly connected to the line of gas transit;
- LPG naval transportation is cheaper than land transportation, etc.
Generally, this gas is competitive at world markets, and LPG market can potentially become global.

However, it is not all so easy with liquid petroleum gas:
- LPG production requires large investments. Thus, for example, Shell company in Qatar has invested not less than $19 bln. into recovery and creation of LPG infrastructure. Or, for example, investments into “Yamal LPG” development will amount to not less than 1 trn. roubles. Taking into consideration the fact that the start Gazprom with liquid petroleum gas has definitely taken too long (only one LPG plant (on Sakhalin) currently operates in Russia, having missed the opportunity to occupy key positions by this (the country’s share at world LPG market amounts to about 5%), serious risks could then be talked about. It could be so if it had not been for the intricate LPG situation, which has now happened in the world. The case is that in order to satisfy US needs of LPG, considerable means have been invested worldwide: gas was recovered, liquefaction units, marine terminals, methane tankers, etc. were created. However, shale gas recovery in America has led to a considerable decline of a need for imported liquid petroleum gas. As a result, in order to occupy a niche at recently formed European gas market and to return its credits with interests, the same Shell company was obliged to dump Qatar LPG (the cost of Russian and Norwegian gas according to long-term contracts amounted to about $300-400/ ths. cub. m., whereas Qatar gas was sold at $120-150/ ths. cub. m.). This certainly undermined Gazprom position. However, Shell could not sell gas at a sacrifice for a long time. As a result, now Qatar projects are frozen till 2014; moreover, the shipment of Algerian LPG is stopped, etc. World LPG market amounts to only 8% of gas market, and spot market amounts to 1% globally.
2. Increase of shale gas recovery. It is due to the recovery of shale gas deposits that in 2009 the USA deprived Russia of leadership according to the volume of produced gas. Besides the USA, its largest deposits are found in Brazil and China as well as in Canada, Australia, and Europe. So, is it likely that shale gas will put Gazprom position worldwide under threat?

On the one hand, shale gas has a number of advantages:
- theoretically, its world deposits considerably exceed the possible deposits of the classic one (about 600 trn. tons of shale), but the index of its recovery is considerably lower than that of traditional  gas;
- geologic exploration of shale is cheaper and much easier;
- proximity to customers, cheap transportation, etc.

However, the current agiotage around shale gas is called by many experts a well-thought PR-campaign, which is designed to hide many problems that occur during its production:
- at the main sales market of Gazprom – European – this gas deposits are not very large; in addition, they are spread around, which hinders their mass production. Poland, for example, by virtue of shale gas production was planning to turn from the country that imports 72% of gas to its importer in several years, but the first results of geologic exploration were found negative. Moreover, in densely populated Europe there exists a serious problem of land allotment for borehole drilling. One shall understand that in the USA land owners are at the same time is the owners of natural resources. In other words, they have a direct interest for shale production, whereas in Europe it is different: the state is the owner of resources;
- the cost of shale gas recovery yet exceeds the cost of traditional gas. In the USA the companies that deal with shale gas recovery suffer losses, but they have already invested considerable means and find it impossible to stop. Moreover, they still have a hope for the rise of gas. It is obvious that as long as technology develops, it can seriously lower shale gas production cost;
- serious ecological issues. The technology of shale gas recovery is well-known. Generally speaking, after water, sand, and chemicals are at a high pressure pumped down into the ground, natural gas, which lies deeply below hard rock, goes upwards onto the surface, where it is collected. However, not all gas is collected, and it gets into the atmosphere, water, and ground. During the first time American press informed about stinking water from water pipelines, fire that sometimes appears from kitchen taps, growth of serious diseases among the people living not far from shale gas deposits;
- limitation of shale gas recovery. More than 80% of gas stock from a borehole is recovered during the first year; after this new boreholes are to be weld. Thus, the life cycle of Barnett shale borehole does not exceed 8–12 years;
- shale gas delivery. Distribution network is also very important for this gas, for it is to be delivered to the place of demand.

In general, shale gas currently is a local factor, which influences only the market of North America (US recovery of shale gas provides up to 10% of the general gas production). According to IEA data, non-traditional stock amount to only 4% of world gas stocks. Consequently, it is yet too early to speak about a revolution at gas market. Moreover, the stocks of shale gas in Russia are very large, but it currently does not have an urgent need to develop them, for the country is for 80-100 years provided with rich deposits of cheaper traditional gas.

3. Diversity of sources of gas supply to Europe. Today Europe depends on energy import by about 50% (only 10 years ago this number amounted to 40%). It is expected that in several decades it will depend on energy import by already 70% due to depletion of its own resource base. One more interesting figure can be suggested in this reference: today Gazprom controls up to ¼ of EU market. It is obvious that Europe would like to be more independent in terms of energy, but by virtue of whom can it be obtained?
- Norway will be able to keep energy recovery for no more than 10 years, for its deposits have been almost cleaned out, and volumes of recovery in the Netherlands are lowering;
- Algeria has seriously exhausted its resources;
- Libyan war has exposed GreenStream gas pipeline, through which fuel was entering Europe, under risk;
- Iraqi gas is associated, which means that its production depends on reconstruction of oil sector, which was destroyed by war;
- Caspian bordering countries – Azerbaijan, Kazakhstan, and Turkmenistan – have underdeveloped delivery system;
- Iran is in condition of western countries’ blockade.

Russia can recover the biggest volume of gas on record already during this year. It is expected that in 2011 recovery will rise by 6% from the last year, and the country can come very closely to the mark of almost 700 bln. cub. m. It is well-known that the increase of the volume of recovery speaks about one thing – rise of demand for Russian gas. The decision of FRG government to close all of their fuel stations by 2022 opens new opportunities of increasing Gazprom presence in Europe. During the next 10 years gas consumption in Germany may increase by more than 20 bln. cub. m. yearly. Switzerland and Italy talk about a refusal from nuclear energy. Besides, there also exists Chinese market. According to different estimations, in 2030 China will consume 250–280 bln. cub. m. of gas yearly. Miller is already dreaming about gas supply to Asian market in volumes, which are comparable with gas supplies to European market. The contract with the PRC will probably be signed during the visit of Vladimir Putin to Peking this autumn.
This will happen if Gazprom manages the exhaust of gas deposits. According to certain data, deposits in Western Siberia are exhausted by more than 50%, and the share of hard to recover reserves has reached 60%.
4. Surplus gas supply at the world market. By 2015 gas market may experience surplus supply in the volume of 200 bln. cub. m., which can hit Gazprom positions at world market rather hard.

Consequently, gas as “the fuel of the 21st century” leaves coal, nuclear energy, and renewable sources of energy far behind;
- the share of non-traditional gas sources, according to IEA forecast, will not exceed 14-18.5% by 2030;
- Russia will remain the most influential player at the global gas market. If Aleksandr the 3rd  said that Russia had two allies – army and fleet, then today it again has two allies – oil and gas;
- the major part of gas will be supplied through pipelines, long-term contracts will prevail, and the cost of gas will be pegged to the world oil prices.
And if somebody refuses to take – we will turn gas off!

What awaits the gas price, what will it be? As explained by Igor Vasev, the head of Futures Trade and Stock Exchange Department of Masterforex-V Academy, maximum gas price was registered in the midst of crises in 2008, at exactly the same time as oil prices “took off”. Gas price has remained rather stable during the last year, even despite the rise of oil price, which speaks about stability at this market. Technically, the price is within strategic flat. Considerable changes of price are not expected yet.

 

 

график

 

The Editorial Board of “Market Leader” magazine, jointly with experts of Forex Academy and Masterforex-V Stock Exchange Trade, holds a questionnaire in the traders’ forum: Will Europe become more and more dependent on “Gazprom” year after year?
▪ yes, as there is no alternative to Russian gas;
▪ no, alternative sources have been developed, and they will eliminate the need for Russian gas.

 

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