The second quarter of this year has seen a sharp increase in gas and power commodity prices. Moves rival those seen in Q4 16 and 17 as French nuclear availability became a burning issue and the focus of much speculation over deliverability during the peak demand months. Looking further back and the step change following the Fukushima disaster in Japan in 2011 or even the bull run of 2007-8 springs to mind.
Following the late cold snap across Europe at the end of the winter period, market observers could be forgiven for expecting price premiums to erode as the market congratulated itself on escaping the worst the winter had to throw at it. What transpired is still unfolding, but what we can conclude thus far is that the market was not prepared to continue to price Winter 18 futures at a 5%-10% discount to the spot outturn for Winter 17.
What we know about the upcoming summer comprises several key factors to market conditions. First is the structure of the physical market. Despite gradual recovery from the energy complex lows of Q1 2016, prices have remained muted in a historical context. As such, the market has become, if not complacent, one that is still structured in a short-term way, a hangover from the sharp fall in prices throughout 2015. A push up in prices in a market dominated by shorts will always tend to exacerbate the pace of change.
Secondly, fundamental conditions have left storage short across Europe. The signal from Qatar that Europe couldn’t count on LNG deliveries was underlined again last winter as cargos were diverted to the higher bids from Asia. Strong summer deliveries from Russia both via the pipeline and new LNG output is seen as price-taking and vulnerable to the heightened political action that currently engulfs global politics. Europe is still recovering from low water levels, a higher reliance on fossil fuels, and much more expensive carbon certificates for power generation. The French are expected to announce this year how many nuclear plants will be phased out to meet its ambitious plans to diversify and green its power grid. The availability of Groningen gas remains a question despite a gradual phase-out plan covering the next decade.
It isn’t hard to understand why market participants are no longer willing to price winter risk in at a discount. Ahead of deliveries, it looks as though the market will want to cover risk with much higher pricing than we have been used to in very recent years.
