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Gas Swings at Two-Year High Expose U.K.’s LNG Dependence: Energy Markets

Traders in U.K. natural gas are grappling with the most changeable prices in more than two years as investors weigh Britain’s growing dependence on imports and a waning ability to respond to surges in demand.

Price swings in day-ahead gas, as measured by 30-day historical volatility, more than tripled to 156 percent in the two weeks to Feb. 13, the highest since October 2009, broker prices compiled by Bloomberg show. A cold snap strained the U.K. storage network this month and exposed its reliance on liquefied natural gas from the Middle East, according to Sabine Schels, a commodity strategist at Bank of America Corp.

Rising volatility signals a risk to utilities and power generators, including Centrica Plc (CNA) and Electricite de France SA, as they seek to ensure supplies at stable prices amid dwindling North Sea reserves and competing demand for the fuel from Asia. LNG imports to Japan rose 12 percent last year, while shipments to the U.K. dropped 20 percent in the final quarter of 2011.

“There is a misperception that the U.K. will continue to receive high LNG imports,” Schels said in a Feb. 21 interview from London. “We’ve seen them decline and we expect them to continue to go down, because demand in Asia is so strong.” Next-winter gas prices need to rise in order to attract enough LNG to meet Britain’s needs, she said.

Europe’s Biggest Market

U.K. day-ahead gas jumped to 101.5 pence a therm on Feb. 7, the highest level since March 2006, from 64.5 pence on Feb. 2. Prices dropped just as fast, falling to 57 pence in the next four days. The contract climbed 0.4 percent to 59.5 pence at 11:08 a.m. London time.

Volatility, on a 30-day historical basis, hasn’t been so high since September and October 2009, when an oversupply of LNG combined with a drop in demand fanned by the deepening global financial crisis sent day-ahead gas prices tumbling to 10.25 pence, the lowest since at least 2007.

Natural-gas imports into the U.K., Europe’s biggest market for the fuel, more than doubled since 2006 as production from the North Sea fell almost 50 percent, according to government data. At the same time, the country’s ability to deliver gas from storage has fallen 12 percent as LNG tanks, which can distribute fuel faster but are costlier, have been shut. That’s left Britain with a smaller buffer against surges in demand at times of colder-than-average weather.

“Risk is rising in the U.K. gas market,” Trevor Sikorski, director of European energy-market research at Barclays Plc in London, said in a telephone interview. “There is limited U.K. storage compared with other European markets such as Germany.”

Sliding Temperatures

Temperatures in London dropped to an average minus 4 degrees Celsius (25 Fahrenheit) on Feb. 11, the lowest since December 2010 and 13 degrees below the five-year average for the time of year.

Storage sites struggled to keep pumping gas to the network as temperatures plunged. End-of-day deliveries from the U.K.’s long-and medium-range facilities dropped to 73 million cubic meters on Feb. 8, after peaking at 84 million on Feb. 3, according to National Grid Plc (NG/) data.

While the U.K. has about 4.6 billion cubic meters of storage, 12 percent more than in 2006, the amount that can be delivered to the network in a single day has decreased about 12 percent to 108 million cubic meters as onshore LNG sites were decommissioned, grid data show.

“The issue is one of deliverability rather than capacity,” Michael Hsueh, an analyst at Deutsche Bank AG in London, wrote in a research report on Feb. 10. “Withdrawals were so strong that when prices reached even higher levels Feb. 6 to Feb. 8, slightly lower withdrawal rates were achieved from medium-range storage sites.”

Storage Capacity

The U.K. should double its storage capacity by 2020 to avoid higher wholesale gas prices and protect itself against supply interruptions, lawmakers from the Energy and Climate Change Committee said in an October report. Britain can store about 14 days of supply, compared with 69 days in Germany, 59 days in Italy, 87 days in France, and 66 days in the U.S., according to the report.

While vulnerable to another spell of cold weather, U.K. gas stockpiles are at their highest for this time of year since 2007, partly as electricity companies turn to coal as a more profitable fuel for generating power.

“Gas demand for power is awful, which is bearish,” said Sikorski.

Coal Versus Gas

While Britain can generate more than half its power from burning gas, it used the fuel for just 17 percent of its electricity on Feb. 20.

Using coal to produce U.K. electricity for the next month earned companies 14.80 pounds ($23.19) per megawatt-hour more than gas on Feb. 1, the biggest difference since Bloomberg began compiling the data in October 2009. The gap was 11.59 pounds today.

LNG accounted for 47 percent of U.K. gas imports in 2011, government data show. Cargoes arriving in Britain dropped 20 percent in the final quarter, government data published today showed. At the same time, Japan boosted imports 12 percent to a record 78.53 million metric tons last year to make up for lost capacity following the disaster at the Fukushima Dai-Ichi nuclear plant in March and the subsequent shutdown of more than 90 percent of its reactors. The country paid a record average price of $16.96 a million British thermal units in November, according to LNG Japan Corp.

Future Winters

“It changes the risk premiums for future winters,” said Schels. “The U.K. is not short of gas, but it is short of cheap and reliable gas.”

The Isle of Grain LNG terminal east of London, the South Hook and Dragon sites in South Wales and the Zeebrugge facility in Belgium aren’t in constant use. All four have advertised import slots this month for times when they don’t intend to bring in cargoes.

U.K. gas for delivery next winter rose 0.8 percent today to 72.5 pence a therm on London’s ICE Futures Europe exchange. That’s 4.5 percent above the average since the contract began trading in 2008, and down from a two-year high of 77.6 pence in August.

Britain’s dependency on LNG also leaves it vulnerable to a slowdown in global production and disruption in the Strait of Hormuz, which Iran has threatened to block in retaliation for a European Union embargo of its oil. Qatar supplied 96 percent of the U.K.’s LNG in the last quarter, government data show.

“Should Iran shut Hormuz, spot LNG prices would climb to above $18 per million British thermal units, possibly $25 per million British thermal units,” Leslie Palti-Guzman, a New York-based analyst at the Eurasia Group, said in an e-mail.

To contact the reporters on this story: Matthew Brown in London at mbrown42@bloomberg.net; Ben Farey in London at bfarey@bloomberg.net.

To contact the editor responsible for this story: Stephen Voss at sev@bloomberg.net

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