February 2, 2015 / 5:01 AM / 3 years ago

COLUMN-China holds some hope for LNG producers: Clyde Russell

--Clyde Russell is a Reuters columnist. The views expressed are his own.--

By Clyde Russell

LAUNCESTON, Australia, Feb 2 (Reuters) - Can China ride to the rescue of producers of liquefied natural gas (LNG), who are bringing on stream ever more supply at a time when prices in Asia have sunk to 4-1/2 year lows?

The world's largest commodity consumer has taken some of the blame for the plunge in the spot price LNG-AS, which dropped to $7.20 per million British thermal units (mmBtu) last week, the lowest since July 2010 and down almost 65 percent from the same time last year.

To be sure, a warmer than usual winter in North Asia and a well-supplied market are also major culprits in LNG's weakness.

But China's demand growth in 2014 didn't come anywhere near to meeting expectations.

LNG imports rose 10.3 percent to 19.85 million tonnes last year, a pace of growth that was less than half of what was achieved in 2013.

Slower economic growth and higher natural gas prices crimped demand for the cleaner-burning fuel, even as China tried to limit the use of coal in a bid to lower pollution.

China's natural gas demand grew by 5.6 percent last year to 178.6 billion cubic metres (bcm), which is less than half the average annual growth rate of 11.7 percent between 1995 and 2009.

Of that demand, 127.9 bcm was produced domestically, while 57.8 bcm was imported by pipeline or as LNG. The split between the two was in favour of pipeline, but not by too large a margin, with LNG imports amounting to almost 27 bcm.

There is little doubt that China's natural gas demand can return to double-digit growth figures, but much will depend on the actions of policymakers.

The authorities will have to continue a policy of trying to shift away from coal, and in doing so will have to actively encourage the use of natural gas.

In practical terms this means that they will have to reverse last year's price increases for natural gas, to allow the dramatic fall in LNG prices to be felt by both industrial and residential consumers.

The price hike in September last year raised the natural gas price in Tier 1 users to $10.70 per mmBtu and $12.80 for Tier 2, according to calculations by consultants FGE.

The two-tier system of pricing is scheduled to be scrapped this year, proving policymakers with a ready-made opportunity to lower natural gas prices in order to boost demand.

This will be essential if China is to meet its target of increasing natural gas use to 400 bcm per year by 2020, which would be more than double last year's consumption.

LNG TO COMPETE WITH PIPELINES

The sharp fall in LNG prices may help make the super-chilled fuel more viable against pipeline imports from other countries.

The problem for LNG has always been that it was too expensive compared to alternatives, but the tables appear to have turned.

China buys much of its pipeline gas on oil-linked contracts, which means prices are currently falling given crude has more than halved since June last year.

This doesn't sound positive for LNG, but it may be insofar as it makes future pipeline projects considerably less viable.

The massive 38 bcm a year deal between China and Russia, signed last year, and due to start in 2018 may be a case in point.

While pricing for the deal was never publicly revealed, it was believed to be about the equivalent of $10 per mmBtu, delivered at the Chinese border.

With oil-linked pricing, this may have dropped to around $8 per mmBtu. Add to this the cost of transporting the gas from the border in the northwest to the main markets in the northeast, and the price will be closer to $12 per mmBtu.

This is well below the current spot price of LNG, meaning there is the potential for LNG to take market share from pipeline gas.

Additionally there is the increasing likelihood that some of the planned pipeline additions from Russia and Central Asia to China won't be built, or will be delayed, given the deterioration in the economics.

This gives LNG producers a chance to increase their penetration of the Chinese market, and also holds out some hope that the wave of new LNG from nearly-completed projects in Australia will find buyers for the uncontracted portions of their output.

About 32 million tonnes per annum of LNG capacity is likely to be commissioned this year from three Australian projects, with three more to come in the following years, as well as at least three new ventures in the United States.

Of course, the caveat is that LNG prices will have to remain low enough to compete with pipeline supplies, and also coal, while China's policymakers will also have to play their part.

Editing by Joseph Radford

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