Eventual liquefaction and export of shale gas from the United States will be too little to bend global gas markets away from oil price indexation, and a shale gas revolution abroad is too far off to decouple natural gas and oil prices in other parts of the world, Bernstein Research Senior Analyst Neil Beveridge said in a note.

“In our view there is little to no chance of any change in the current pricing structure for international pipeline gas or LNG [liquefied natural gas],” Beveridge said. “To the relief of the LNG industry and investors in LNG producers, oil-linked pricing is here to stay.

“There is no such thing as a global gas market — and we think there is unlikely there will ever be in the next 20 years.” The bounty of natural gas being thrown off by shale plays in the United States will have “a far greater impact” on the domestic gas market than global markets, Beveridge said.

U.S. gas demand is about 67 Bcf/d, and shales produce about 25 Bcf/d, or about 35% of total North American supply. Assuming half of the 90 million metric tons per year of LNG export capacity proposed for the Lower 48 United States is built, export capacity would be 40-50 million metric tons per year, or about 6 Bcf/d by 2020.

Global trade in oil-indexed natural gas should be about 90 Bcf/d by 2020, Beveridge said, which would mean 2020 exports from the United States would be less than 7% of the oil-indexed gas market.

“This is too small to move the needle in the context of the global trade in oil-indexed gas,” Beveridge said. “To be meaningful, U.S. Lower 48 LNG exports would have to exceed 150 [million metric tons per year] to make a fundamental difference to global pricing of LNG. Given that this volume of exports would push U.S. domestic gas prices towards international levels, we see this as an unlikely scenario.”

The development of shale gas resources abroad faces headwinds, so a world shale gas revolution is unlikely to decouple global gas prices from oil in the way the U.S. shale gale has in the United States, according to Beveridge.

Shale gas development in Eastern Europe has been stymied. The banning of hydraulic fracturing by some countries is another obstacle in Europe. Australia and Argentina have seen positive shale results, but cost and investment challenges will keep material shale production at bay for years in those countries, Beveridge said. And in China and India, where gas is sorely needed, “the shale revolution is moving at a glacial pace,” he said.

“…[G]rowth in oil-linked gas imports will be far greater than the growth in domestic shale production, which makes it hard for us to believe that shale will have any meaningful impact on gas pricing in emerging LNG demand centers.”

And new LNG production projects need to be supported by contracts with oil-linked pricing for their economics to work, Beveridge said. “The expansion of gas projects in Australia would not have been possible without the direct linkage between oil and gas prices given the high cost inflation and the increase in project costs to US$3,500-4,000/ton,” he said. “At these prices, operators need a real LNG price of US$12-14/Mcf (FOB) to generate a marginal return on investment.”

A typical LNG contract has a slope of 0.12-0.14 times oil price, so the LNG industry needs $100 oil to make projects work, Beveridge said.

The labor and supply constraints seen in Australia also will bedevil western Canadian export projects, which will compete with the Alberta oilsands for workers and equipment, he said. East Africa developments will require “enormous new infrastructure investments.”

And in Alaska, where a commitment to develop LNG exports was just made by producers (see Daily GPI, Oct. 5), a proposed $65 billion project would need to fetch the same kind of prices for its output as Australian projects in order for it to work, Beveridge said.

“So although buyers may have more choice as to where the gas comes from, the oil link with LNG is still needed for projects to get commercially developed,” he said.

In January Cheniere Energy Partners LP’s Sabine Pass Liquefaction LLC signed a sale and purchase agreement with Korea Gas Corp. that indexed prices to Henry Hub (see Daily GPI, Jan. 31). This, apparently, has thrown a wrench into some LNG contract talks elsewhere. At a recent Calgary energy conference, Apache Corp. Vice President David Calvert, manager of the company’s Kitimat, BC, LNG joint venture, said projects such as Kitimat need long-term contracts based on oil prices.

“It [the Cheniere-Kogas contract] created quite a ripple through the marketplace,” Calvert said, adding that the deal caused “unrealistic expectations,” as reported by Bloomberg.

Without development of an active spot market in Asia — an unlikely event — LNG projects will need long-term contracts to get built, Beveridge said, but suppliers will resist Henry Hub pricing since U.S. exports will play such a small role in the global gas market.

“Although we expect the U.S. to export some LNG, it will not be of sufficient volume to enable buyers to walk away from existing [oil-indexed] contracts,” Beveridge said.

Not everyone believes in the long-term survival of oil-indexed pricing for gas abroad. Rice University’s Ken Medlock, a Baker Institute energy fellow, recently told NGI that linking U.S. gas markets with the world will cause Asian and European market players to take gas storage positions in the United States “because what you have when you have both import and export capability in the U.S. is a direct link to all the storage we have in this country,” Medlock said (see Daily GPI, Aug. 9).

“Once that begins to happen, it creates not only spatial arbitrage opportunities, but intertemporal [opportunities]. So you can trade basically based on seasonal price movements. And that will inject a lot of liquidity into the global market. And I think that’s going to put tremendous pressure on all these oil-indexed paradigms that you see beginning to crumble in Europe. But particularly in Asia I think you’ll begin to see that begin to crumble.”

But that won’t happen anytime soon, Medlock allowed, citing the need for development of continental pipeline systems abroad, particularly in China, an argument also made by Beveridge.

The good news for the United States, according to Beveridge, is that gas prices at home “will remain low relative to oil and relative to other global gas markets, which will give energy-intensive industries (steel, petrochemicals, refining) an advantage over international peers.”

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