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Our market view - week 45

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Plenty supply and demand worries push oil prices down


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OIL

Crude markets are weighed down by worries of weak demand, especially in key consumers such as Japan, China and the euro zone, with a ramp-up in production by Saudi Arabia adding to the pressure. Investors are waiting for the outcome of the US presidential elections. Global markets worry about US budget uncertainty, with looming spending cuts and tax hikes (the “fiscal cliff”) threatening to push the economy back into recession.

Manufacturing in the euro zone shrunk for the 15th month in a row, increasing doubts about a global recovery. Weak economic growth, high prices and improving vehicle fuel efficiency pushed down consumption of gasoline and diesel in most of Western Europe over the summer, with consumption in France, Italy and Spain dropping by between 6 and 10% year-on-year.


NATURAL GAS

The gas market is driven by bullish supply and bearish demand signals. UK winter month contracts moved lower last week, despite ongoing concerns surrounding the availability of LNG. Prompt prices were also weak, despite increasing LDZ demand. On Thursday, LDZ consumption reached 189 mcm accounting for 73% of Britain’s overall demand. On the same day last year, LDZ demand was just 125 mcm. Weather forecasts call for colder than normal temperatures in North West Europe, but the effects on underlying demand will not be as large as in the past due to falling power sector demand. UK LNG supply remains thin. Higher purchases by Brazil and continued troubles in Nigerian and Yemeni production seem to be limiting Atlantic Basin excess supply.

Despite the weak macro-economic picture and softer oil prices, gas prices will remain strong until more LNG begins to unload in the UK market. Cold weather will further test the flexibility of the Norwegian and Dutch systems, and any disturbances in the supply outlook could give a new jump in prices.

Russian producer Gazprom’s natural gas exports to Europe fell by 10% to 77.9 bcm in the first half of 2012 compared to the same period last year. Gazprom described its 2011 results as an “anomaly”, with increased demand for Russian gas owing to very cold weather and the conflicts in the Middle East and North Africa. Domestic sales were also down, to 144 bcm from 154 bcm last year. Russia’s total gas output in the period January-October fell by 2.9% from 2011. Total production for the nine months was 534 bcm, of which Gazprom output accounted for around 74%.

The use of gas in the power sector is still well below normal. Weak coal and emission prices continue to make coal-fired generation more competitive against gas units.



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Figure: NBP day-ahead prices 2012 (Reuters data)



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Picture: UK power generation - coal and gas dispatching (Source: PIRA)

Updated