Confusion Still Reigns In Oz Gas Market

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Confusion reigns in Australia's gas market and brokers try to make sense of the outlook for gas supply and prices from the official rumblings.

-Lack of clarity over how any domestic shortfall will actually be handled
-Brokers also question a forecast decline in supply in Gippsland Basin
-ADGSM may mean gas prices won't surge above $10/GJ, but unlikely to fall
 

By Eva Brocklehurst

Investors could be excused from being vexed over the current machinations in the east coast gas debate and the impact of the Australian government's gas security mechanism (ADGSM). Brokers believe they should, after themselves attempting to unravel the myriad reports from government agencies and trying to ascertain the extent of any gas shortage, or whether one actually exists.

Australia's gas market has changed, with the large export-linked ventures established in Queensland over recent years – QCLNG, APLNG and GLNG. The source of this gas emanates from CSG and, relatively small, conventional fields in western Queensland.

Older fields that provide the gas to the industrial heartlands of Victoria and NSW are traditional LNG producers in Victoria's Gippsland Basin (Bass Strait), delivered via the lengthy pipelines that run north up the east coast.

As Morgan Stanley describes: the east coast gas market has transitioned from a closed market that was priced off long-run conventional extraction costs (legacy pricing) to an unconventional, export-linked market with substantial transport constraints between Queensland and southern markets.

Reports from the market monitors, the Australian Energy Market Operator (AEMO) and the Australian Competition and Consumer Commission (ACCC), now forecast shortfalls for domestic gas in 2018, citing reduced LNG production from Victoria's Gippsland Basin, and higher consumption from increasing use of gas for power generation.

Overlay these reports with speculation about how the government might action its ADGSM, and whether it will spread the obligation to all LNG producers or just those that are short on domestic supply, and confusion mounts.

The government has recently come to an agreement with Queensland gas producers suggesting it will not restrict LNG exports from Queensland in 2018, provided they supply sufficient gas to cover a forecast 54PJ domestic shortfall in eastern Australia.

UBS still expects the ADGSM to be triggered, but all three Queensland LNG producers may be asked to provide the gas. The broker then considers the legislation unclear on what happens if all three are net contributors domestically and are then asked to address a deficit caused by declining Gippsland Basin supplies and higher demand from gas-fired power stations.

Goldman Sachs finds it hard to envisage anything positive in a potential government decision to restrict LNG exports or enforce increased production, and is also unsure exactly how any shortfall burden would be treated.

Despite most gas players forecasting an increase in drilling and stable production, AEMO/ACCC have cut expected production by 47PJ in 2018 and 64PJ in 2019. The AEMO forecasts factor in a 26% decline in Gippsland Basin production, which is considerably greater than Goldman Sachs had expected (and finds difficult to believe).

Macquarie concurs, questioning how the Gippsland Basin JV – Esso and BHP Billiton ((BHP)) – the largest producer in the south, will drop to 244PJ from a record 330PJ in 2017. The broker suspects that GBJV has only reported the volumes already contracted for 2018, and a rise in production and reduction in exports has essentially gone unnoticed by the ACCC.

Credit Suisse suggests, while the validity of the regulators' shortfall conclusion will be debated, the industry cannot be said to have provided evidence it is collectively responding to the market's concerns by lifting output.

Players

How does this affect the listed players in the market? If the obligation were spread evenly across exporters, Morgan Stanley suggests APLNG, 37.5% owned by Origin Energy ((ORG)), would need to produce or divert an additional 18-36PJ, not difficult as Origin has multiple routes to market.

Goldman observes that based on recent share price performance, the market is not viewing a broadening of the burden beyond GLNG to the other two projects as positive for GLNG's major player, Santos ((STO)), and negative for Origin Energy.

As a result, the broker believes Santos is now pricing in an oil price of US$59/bbl and looks expensive versus its sector peers. Goldman Sachs prefers to avoid the unpredictability of east coast gas policy and retains a preference for Oil Search ((OSH)) and Woodside Petroleum ((WPL)) in the sector.

Pricing

Okay, supply sorted – sort of. Now the question becomes the price at which this gas is sold into the domestic market. UBS reiterates a view that the intervention in gas markets will not bring down gas prices to less than $6/GJ.

The broker expects the gas price for this 54PJ will be higher than the ACCC's recently released benchmark price of $5.87/GJ in Queensland. The broker also expects Origin Energy to purchase APLNG gas and use existing capacity in the pipelines between Queensland and NSW to ship additional gas south. Shell, as primary owner and operator of QCLNG, is also expected to sell more gas into the domestic market.

However, heightened scrutiny suggests to the broker there will be less gas on offer materially above $10/GJ. Credit Suisse is also comfortable that wholesale prices will remain in the $7-10/GJ range and, importantly, that the periods of scarcity which have pushed received prices well above this range will be eliminated.

The ACCC’s version of “reasonable” prices when compared to the exporters are two very different sets of numbers and, after doing the maths, Macquarie queries whether the “benchmark price” is a benchmark at all.

Morgan Stanley suggests domestic gas buyers may even be holding off obtaining contracts, in the hope of government intervention, and does not believe the medium-term pricing of gas to the domestic market will be resolved any time soon.

For gas pipeline owners, such as APA Group ((APA)), Macquarie suggests the latest AEMO and ACCC reports are a “shot across the bow”. Morgan Stanley also envisages some risks to earnings from amendments to the national gas law. The ACCC may release a further interim gas inquiry report this year to address gas transportation and storage arrangements. And that will be another story.
 

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