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Repricing Asia’s costly gas

Hydrocarbon Engineering,

According to the International Energy Agency (IEA), Asia will represent almost half of global incremental gas consumption over the medium term (2012 – 2018). Half of this increase will need to be met by additional imports.

Due to the region’s geographical specifications, LNG is expected to play an even large role in filling the gap, with Asia absorbing 80% of incremental LNG imports.

Old pricing in an evolving market

IEA highlights that the global LNG market is facing unprecedented uncertainties due to growing pressures on the current pricing system that is based on oil indexation.

Oil indexation had remained relatively unchanged in Asia since it started 40 years ago, with countries such as Japan willing to pay a premium compared with other countries in order to guarantee security of gas supplies. Japan paid US$ 0.8/million Btu for gas in 2003 – 2004, more than Germany.

However, oil indexation in LNG contracts has generated particularly high prices over the past few years. Over 2012, Japan’s premium was US$ 5.2/million Btu above the average of the UK National Balancing Point and the German border price. According to the IEA, the gap grew as European utilities renegotiated their long term contracts over 2010 – 2012 to introduce partial spot price indexation. Asian utilities have undergone no such renogotiation.

The US shale boom

The shale gas revolution in North America has profoundly changed global gas markets by lowering Henry Hub gas prices, which serve as US benchmarks, changing expectations in terms of LNG flows and triggering renegotiation of contracts’ prices in Europe.

Consuming countries, particularly in Asia, are increasingly focused on lowering prices, and a solution could be to include Henry Hub indexation in future supply contracts rather than the traditional crude oil indexation.

The IEA holds that Asia may not be able to get prices as low as those in Europe, given that the region is on average further from key producers - notably the largest one, Qatar, but also the Gulf of Mexico projects in the US.

Options for Asia’s premium

The IEA outlines that using Henry Hub indexation rather than oil is the only credible medium-term way to change the pricing indexation. Based on current Henry Hub prices of approximately US$ 4/million Btu and on the formulae adopted by exporters, LNG can be delivered to Asian markets at approximately US$ 11/million Btu, significantly below current prices. However, Henry Hub dynamics differ significantly from those in Asia, which means that producers are reluctant to accept its prices as an alternative to oil indexation.

All Asian countries gave expressed high interest in a longer-term alternative: developing a natural gas trading hub in Asia. According to the IEA, such a hub would change the way LNG is marketed and traded, introducing increasing flexibility but the lengthy transition would require substantial transformation of Asian gas markets, such as a hands-off government approach to energy issues, third-party access to infrastructure and wholesale price liberalization.

Adapted from a report by Emma McAleavey.

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