Against a rapidly changing environmental and geopolitical backdrop, the global LNG industry appears rapidly evolving, said Martin Houston, executive vice-president and managing director for BG Group PLC. This evolution has brought the industry to a critical juncture in its development as its members met last week at Gastech in Bangkok.
In his second-day keynote speech, Houston said the “road ahead looks very different from our road already traveled; old and new orders are rebalancing, costs and prices are re-equilibrating, and margins are migrating as the balance of power shifts.”
Past, present
Over its first 35 years, the LNG industry showed steady but unspectacular growth, said Houston. Its relatively high cost base ensured that it remained a regional and niche fuel. Cost-reduction efforts in the early 1990s, however, extended LNG’s market reach and increased its competitiveness.
Specifically, this evolution allowed the US gas market, the world’s largest, to push wider industry growth. Record US LNG imports of 16.2 million tonnes in 2007 only presaged the more than 70 million tonnes/year contracted into the US by 2012, he said.
The wave of US LNG import contracts signed by BG Group and others in 2003-05 not only ensured growth, said Houston, but also guaranteed structural change. These deals laid the foundation for evolution to a “more globally connected, flexible, and integrated market from largely regional, bilateral trade.”
Rapidly increasing commodity prices since then have created further uncertainty in both supply and demand as LNG starts to drive globalization of natural gas and to experience the effects of this globalization in a high-priced, supply-tight world.
These events have pushed LNG into the geopolitical spotlight, said Houston. As industry has become more interconnected, he said, both “internally as a global trade system and externally with geopolitics and national agendas,” it has become more difficult to predict how the global system will function.
Future
Houston said three fundamentals will define the LNG industry: price, market efficiency, and volatility.
In terms of price, economic growth, entrance of new players, supply security, and environmental concerns are pushing strong LNG demand. On the other hand, cost escalation, construction capacity, and domestic priorities are slowing the arrival of new LNG.
This supply-demand discrepancy, he said, has driven up prices for both term and spot volumes. And while it is good for sellers, its effect on the LNG industry is less certain.
The “dash for gas” over the past 2 decades was driven largely by the economics of the combined cycle gas turbine. Previous oil prices made natural gas the economic as well as environmental fuel of choice. The environmental advantage remains, but high prices threaten gas’s “most-favored fuel” status for power generation.
By market efficiency, Houston means the ability of supply to react efficiently to demand signals. Over the past years, LNG evinced many features of a commodity: It has become globally fungible, and increasing trade flexibility is allowing LNG in some cases to respond to price signals and flow to the highest value markets worldwide.
Spare transport and import infrastructure are emerging to enable this, he said. And there appears to be increasing competition within the flexible position of the trade as the volume and number of flexible LNG holders grow.
Houston cautioned, however, that elements remain to inhibit industry’s becoming a fully efficient and competitively traded global market. These include constrained market and resource access, infrastructure costs, existing long-term agreements, company business models, capabilities, and lack of price discovery.
Despite increasing flexibility, Houston believes that true liquidity, transparent market indices, or direct-trade instruments are unlikely near term. Most critically, he said, excess production capacity is unlikely to emerge in the system any time soon.
Houston and BG Group believe that, even in an evolution towards greater global price convergence, external factors will inject volatility into short-term markets. Simply put, he said, “‘stuff happens’ and prices will react.” The July 2007 earthquake in Japan is evidence of that.
A more fundamental question is whether LNG will form a stable and “volatility dampening” trade system or whether it will in fact add to global trade volatility. While increasingly flexible volume should over time smooth the fluctuations of individual markets, the US market is about to “take up the burden” of balancing seasonal demand for the rest of the globe.
He said there will be periods when “global volatility [will be] transmitted to the NYMEX rather than the NYMEX smoothing global volatility.” Add to this are the increasing national political agendas being layered on.
