Utility Week

Utility Week 14 03 14

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20 | 14Th - 20Th March 2014 | UTILITY WEEK Finance & Investment Market view T he global gas market has changed significantly over the past five years. The expansion in unconventional gas in the US and Australia has significantly increased global supplies, moderated prices and reduced the risks associated with rely- ing on imported gas. Prior to the expansion of unconventional gas, the global market was unclear, price rises were anticipated and security of supply was uncertain. It is now time to reconsider what role gas should play in securing the UK's energy supply and in the transition to a low-carbon economy. BP's recent 50-year Energy Outlook con- tained some interesting analysis, particu- larly its prediction that gas would replace oil as the OECD's key global fuel source within 20 years. Globally, by 2035, it predicts that global gas demand will match that for oil. Aer then, global gas demand is expected to exceed that for oil, making it the key global energy commodity. As gas emerges as the dominant source of energy, the market is going through some big changes. We are seeing a global gas market develop. Gas pricing is moving away from its traditional link to oil, and prices are reflect- ing the global demand, supply and trad- ability of gas. The market will continue to evolve in this manner as LNG production and trade grows. According to BP, the growth in the LNG share of traded gas over the next 20 years will be around 46 per cent. Given the predicted increase in gas demand and global trading, it is worth reflecting on the outlook for gas supplies and prices. Using the assumptions made in the BP Energy Outlook, the BP Statistical Review and current data from Bloomberg, we have forecast the outlook in gas price trends using our own global gas market model. Our analysis concludes that, while global demand is rising and gas emerges as the key global energy source, long-term price trends should remain stable. This mainly reflects the continued growth in unconventional gas production and innovation in extraction. While there is some indication of short-term volatility, the long-term trends show long- term stable or declining prices. Prices are expected to remain stable over the medium term but we expect the change in the LNG market to be more volatile. This will not be reflected in price but rather in new supply arrangements. As noted, Aus- tralia is emerging as the largest supplier of LNG and Asia is emerging as the dominant buyer and the Middle East dominance in global LNG trade is declining. Interestingly, our analysis suggests that Great Britain energy prices will remain stable over the forecast period. This outlook differs from what has been the recent traditional policy position on the GB gas market. Since 2009, the government and Ofgem have taken a pessimistic view of gas supplies and prices. The government has maintained its posi- tion through Ofgem's Project Discovery in 2009 and it was reaffirmed 12 months ago in Ofgem's gas market outlook. Some key con- clusions from Ofgem included: "That there is some uncertainty over future developments in global gas markets. Some commentators have noted that gas markets may tighten over the coming years and opinion is divided over whether this situation will improve by the second half of this decade." And second: "That LNG demand is expected to grow faster than supply in the near future. Although cur- rently fairly well supplied, the LNG market is expected to become increasingly tighter in the middle of the decade." Ofgem's overall conclusion is that the gas market faces a number of risks. It is our view that these risks have now abated and the government and Ofgem should reassess the GB and global gas market outlook. The conclusions of our analysis are that the long-term trend for global gas prices is stability. Further, we consider that GB will continue to experience a diversity of supply and stable prices over the forecast period. This will be driven by: • an excess of Middle Eastern LNG supplies. With North America self-sufficient and Asia increasingly relying on Australia, Europe will become the main market for Middle Eastern supplies. We consider reliance on Middle Eastern supplies as representing a low supply risk. As the gas market develops into a global market, global LNG prices will converge; • several options for gas from mainland Europe including Russia, Norway and unconventional gas from Eastern Europe; • indigenous GB shale gas playing a small but important role in local gas supplies; • innovation in gas extraction that is likely to result in North Sea resources declining at a slower rate than predicted. The changed outlook for the global gas market also has implications for UK energy policy. For the past five years, under the cur- rent and previous government, Great Britain has been adopting energy policies intended to reduce reliance on gas for generation and domestic use. The government's current energy policy is predicated on decommis- sioning older coal and oil-fired plant and replacing them with a combination of renew- able, nuclear and gas generation. Such a policy is expensive (renewable and nuclear are more than twice as expensive as gas) and has resulted in complex market structures and subsidy arrangements. In contrast, if the government's energy policy involved a gradual transition from coal and oil to be replaced with gas, and then a transition to low-carbon generation over a longer timeframe, then fewer changes to the energy market would be required. This could result in lower prices and more cer- tain generation capacity. Further, gas is not some form of dirty fuel source. Replacing the scheduled decommissioning of coal and oil plant with gas would result in CO 2 emissions reductions of 17-21 per cent. We do consider it prudent to have a diver- sity of generation. Renewables and nuclear, in particular, will play an important role in providing future long-term sources of power. It is, however, time for the government to update its view on the future of gas. It is unlikely that global prices will rise and secu- rity-of-supply risks have been overstated. We need to accept that our best short-term option of reducing generation emissions is by relying on gas. Scott Flavell and Ted Hopcro are energy and utility experts at PA Consulting It's time to look again at gas When energy policy was weighted in favour of renewables and nuclear, it was assumed gas supplies would dwindle and prices would rise. Think again, say Scott Flavell and Ted Hopcroft.

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