For LNG to develop as a proper global commodity, globally trusted hubs are in need to be established. These hubs provide physical locations for trading LNG and ultimately provide price discovery for LNG sold in the hubs.
Asia is the major natural gas-consuming region in the world, accounting for one third of the global natural gas trade and three quarters of the global LNG trade. The Asian markets have traditionally relied on LNG under long-term contracts tied to crude oil prices. With significant expansion of the global liquefaction capacity—primarily from new projects in Australia and US—and increasing volumes of flexible purchases, a more market-sensitive trade in LNG is emerging in Asia. However, Asia still lacks a liquid and transparent LNG pricing benchmark.
In contrast, Europe has been a global benchmark for LNG spot prices as its gas hubs provide liquidity and financial instruments to LNG trading. This despite the fact that LNG imports to Europe represent less than 20% of global LNG volumes.
As the global LNG market continues to grow and mature, reliable pricing indexes and market hubs in Asian countries that reflect the underlying demand-supply fundamentals are needed, which will help to transform the global LNG market into a more efficient, integrated, and transparent market.
Building a physical hub
Recently, several exchanges have started offering Japan-Korea Marker (the east Asian spot LNG index assessed by S&P Global Platts) swaps, with transactions increasing exponentially over the last year.
Nevertheless, JKM swap liquidity remains small compared with other global or regional energy hub benchmarks, as JKM price movements are based mainly on daily bidding-asking price differences, rather than daily trades. “What it lacks is a physical market reference for daily liquidity—a physical Asia gas hub,” Wood Mackenzie said.
That said, the path to a functional physical hub is long and complex. It requires market liberalization, access to infrastructure, significant trading volume, and clear and transparent price and volume reporting. It has taken more than a decade to develop natural gas hubs and pricing indexes in US and Europe respectively.
Japan, China, and Singapore have been developing regional trading hubs in Asia-Pacific markets. All three countries have launched LNG pricing indexes and announced various financial instruments to be traded on domestic exchanges to encourage LNG price discovery and transparency.
However, according to a 2017 report from the US Energy Information Administration, each of the proposed LNG market hubs faces regulatory and infrastructure challenges, including lack of third-party access to infrastructure and limited pipeline connectivity within and between countries.
Although Singapore has developed infrastructure to accommodate LNG delivery and storage and has a fully deregulated gas market, “efforts to create a hub at Singapore must address the fact that it is a small market,” according to the report.
Japanese government developed a comprehensive strategy to liberalize its domestic natural gas market and encourage private-sector participation in the development of an LNG trading hub and a pricing index. But, until now, it has failed to develop a domestic framework due to various barriers.
China has a better chance
China has encouraged the development of a gas trading hub centered on Shanghai and private entities have begun reporting prices there. However, Chinese gas prices are heavily regulated and the outlook for a successful gas hub developing there in the near future is dim. Nevertheless, China still has a better chance, according to an analysis from WoodMac.
“It is already the largest gas market in Asia and is likely to become the world’s largest LNG importer by 2025. Interfuel competition in power could gradually establish price floors and ceilings. More importantly, China will also bring pipeline gas-to-LNG competition—something missing elsewhere in Asia.”
As China develops new domestic pipeline and storage infrastructure, gas will be transported more freely through the country. If market liberalization is implemented, it will enable more transparent access to infrastructure, boosting the number of players and enabling regional price formation.
“All of this will take time to develop, but as and when it does, China will establish itself as the Asia gas hub. It is likely also to be the most prominent LNG hub globally,” WoodMac said.