1 Introduction & Background

Construction of LNG carriers Methane Princess and Methane Progress in 1964 marked the beginning of commercial transportation of liquefied natural gas across oceans – first ever been done by Methane Princess which was loaded with LNG at Algerian Arzew port for delivery to Gas Council’s terminal at Canvey Island, Essex (England) through Atlantic Ocean. Commercial trading of LNG from 1964 till 1990 was predominantly under term-agreements – Sale Purchase Agreements (SPAs). SPAs typically provide most, if not all of, the revenues for an upstream LNG project and also provide anchor supplies for development of LNG regasification facilities. In fact, new LNG trains are typically not launched without at least some long-term contract coverage. SPAs have firm take or pay obligations for buyers and firm deliver or pay obligations for sellers. Long-term (15-25 years) SPAs have historically been the cornerstone of the commercial arrangements between LNG buyers and sellers.

LNG spot market is the daily market – a market where LNG is bought and sold on ‘right now’ basis providing the price of LNG on a specific day. It is reported that LNG spot market was 1 percent (of total LNG trades) in 1992, 8 percent (400 BCF or 8.4 million tons) in 2002 and GIIGNL estimated that 35 percent (~11,000 BCF or 230 million tons) of global LNG volumes were traded on a spot basis in 2020.

To cater for the increased share of LNG Spot market in LNG trades, SPAs have taken a new form in recent years i.e. Master Sales Agreements (MSAs) – MSAs have been developed to address commercial relationships between long-term Buyers and Sellers while taking into account the realities of LNG spot trade. MSAs typically consist of a main Sale-Purchase-Agreement that sets forth the “General Terms and Conditions” and a shorter “Confirmation Memorandum” that constitutes a separate agreement between buyer and seller to purchase one or more cargoes of LNG. MSAs are an important part of the evolving LNG spot market and facilitate a number of transactions. For example, MSAs permit sales of LNG produced in excess of committed SPA sales for an LNG liquefaction project. Suppliers can use MSAs to sell extra cargoes in spot market at higher prices to alternative destinations experiencing seasonal peaks in demand. MSAs are also being used by buyers to source additional cargoes from MSAs to meet seasonal or temporary LNG demand.

2 LNG / Gas Spot Markets – Nomenclature and Symbols

In order to understand functioning of global LNG spot markets, following figure is helpful.

Figure 1: Screen Shot of European Energy Exchange TTF Price History

Above screenshot provides historical TTF price of spot LNG trades and provision of comparison with neighboring hubs like THE and PEG. Since each hub has different gas / LNG input sources, their comparison provides an insight, to the traders, into the LNG supply-demand situation to Pacific, Asian and US markets. Following is a description of some of the important symbols / terms used in LNG / gas spot markets.

  • Spot LNG prices rose sharply on a rally from the start of 2021, in tandem with rising European gas prices.
  • The S&P Global Platts JKM spot Asian LNG price was assessed Sept. 22 at $27.27/MMBtu, up from just $4.78/MMBtu a year ago.
  • The Dutch TTF day-ahead contract was assessed Sept. 22 at Eur68.58/MWh ($23.59/MMBtu), more than six times higher than the Eur11.40/MWh price a year ago.
Symbol Description
CEGH VTP Central European Gas Hub AG (Virtual Trading Point) – the hub for gas trading in Central and Eastern Europe, located in Vienna, Austria.[1]
CRE Energy Regulatory Commission, France
CZ VTP Czech Virtual Trading Point
EEX European Energy Exchange
ETF Exchange Traded Funds – funds that hold assets that they track e.g., natural gas, gasoline, gold
ETN Exchange Traded Notes – bonds that are not secured by physical assets
THE Trading Hub Europe – a new nationwide German gas market created through merger (effective 1st October 2021) of Gaspool (GPL) and NetConnect Germany (NCG).
PEG Gas Exchange Point, France – covering physical gas deliveries in France (Trading Region France or TRF) at two virtual trading points: PEG Nord (North) and TRS (Trading Region South). TRS was created by the merger of PEG Sud and TIGF on 1 April 2015, to improve the operation of the gas market in southern France and promote its development. Later, TRF was implemented in November 2018.[4] , [5]
TTF Trade Transfer Facility
ZTP Zeebrugge Trading Point, Belgium
PVB Punto Virtual de Balance, Spain

3 LNG Spot Markets: Market Liberalization

LNG market liberalization — Spot markets for LNG have provided transparency in the procurement structure and to trade market-based — thus providing an opportunity for global price discovery. Actually, LNG spot markets are supporting creation of Natural Gas Virtual Pipelines between demand and supply centers across continents. Availability of liquidity is now the only key factor in attracting flow of LNG in the world. Similarly, LNG globalization is transforming the market landscape across various trading hubs in Asia, Europe, and the US – there is an ongoing evolution in LNG trading hubs to achieve and maintain their benchmark status. As reported:

“In Asia, LNG liberalization has enabled the region to overcome a lack of pipeline infrastructure — producing Asia’s first natural gas benchmark with LNG contracts settled against the Platts LNG Japan Korean Marker (JKM). The success of JKM raises the question of further evolution — whether stakeholders will continue using existing pipe gas benchmarks in the US and Europe, or if new benchmarks will emerge. In addition, if LNG is viewed as a virtual global pipeline, the development of a supporting freight market could provide important price transparency for transportation between major trading centers.

With Asia as the key buyer of global LNG, and Europe as the world’s balancing market, the interplay between Europe’s TTF and JKM will underpin pricing formation for global natural gas. JKM has already hit key milestones — the ratio of the spot LNG to derivative market is now 1:1, indicating the same amount of trading in derivatives as physical markets.”

4 Term Contract Defaults and Fixed Price Premiums

Recent spike in European LNG demand due to Russia-Ukraine conflict has incentivized suppliers to default under term-agreements by diverting LNG cargoes to European spot markets at “multiples of term-contract price”.

Singapore-based Guvnor has decided not to honor its contract to deliver four LNG term cargoes to Pakistan.

“The cargoes were to be delivered in the remaining four months’ tenure of Guvnor’s five-year term agreement ending July 2022. The buyer now has to purchase costly LNG cargoes at higher prices currently oscillating in global spot market in the range of $32-38 per MMBTU instead of over $10 per MMBTU (11.6247 per cent of Brent) under term agreement. With the latest default, Guvnor has to date defaulted on seven cargoes whereas ENI defaulted on four cargoes under their term agreements with PLL (Pakistan LNG Limited). Under the term agreement ending in 2032, ENI is providing LNG cargoes at 12.14 per cent of Brent. The main reason for default is attributed to the flawed clauses in term agreements, whereby if case LNG trading companies commit default, PLL can impose a penalty of 30 percent of the term cargo price and not more than that. On the other hand, the PLL is bound to pay 100 percent price of the term cargo under take or pay agreement if Pakistan, for any reason, cannot take delivery of the LNG.”

The graph, reproduced from S&P Global Insights, shows that Spain can import additional 17.25 MTPA LNG by increasing the utilization of 65 Mcm/d of transmission constraint with France, once it is resolved. This increase will be almost twice the annual imports of Pakistan LNG under term contracts.

Another important factor under current LNG procurement transaction in spot markets is payment of price premiums to increase the validity period of bid price. Pakistan LNG’s buy tender, issued in October 2021, seeking December 2021 to January 2022 deliveries, had a validity of 15 days. The buy tender did not receive any offers from sellers due to its long validity. It is now a market norm that tenders have validities extending hours or even days beyond the submission deadline, increasing the risk of incurring slippage costs. For instance, PTT floated multiple buy tenders seeking January to March (2022) cargo deliveries, and those had two-hour validities.

Spot LNG buyers have to pay premiums when they request fixed price offers. According to ICE Insight, several buy tenders that were concluded lately, including those of PTT, Japex, and Komipo, were reportedly awarded with considerable premiums due to their requirement of fixed price basis offers in the tender process. Sellers typically attach such premiums to their fixed price offers to buffer for slippage – the risk of market prices moving higher or lower than expected when the trade is executed, from when the offer or bid is submitted.

“Nobody wants to offer on fixed price basis now, TTF has a possibility of moving 20% intra-day, fixed price offers have a 15-minute validity”

Japex had also purchased a March 11-17, 2022 delivery cargo into the Soma terminal on Jan. 21 at 6 pm SGT, with a one-hour validity. The tender was heard awarded at mid- to high-$23/MMBtu to a portfolio player.

“The JAPEX buy tender was probably transacted with a 20-30 cents fixed price premium at least,”

JKM was assessed at $20.172/MMBtu on the same day of the transaction.

5 Global Benchmarks

Traditionally, oil trading in spot markets has served as the Benchmarks (e.g. WTI or Brent) for gas or LNG price determinations in term-contracts. It was because well-functioning spot markets provided links and means for risk coverage through forward markets – thus contributing transparency and liquidity for spot trades thereby achieving benchmark status.

Gas trading hubs are marketplaces — both virtual as well as physical — run by hub operators, where market participants transfer the title on natural gas already present (or expected to enter or leave in contracted future time) in the transmission system to other market participants. Originally, Europe had the UK National Balance Point (NBP), sterling-denominated, as the first traded natural gas hub. Subsequently, policymakers, market participants, and the Netherlands hub operator established the, Euro-denominated, Dutch Title Transfer Facility (TTF). It is claimed that TTF has replaced NBP as Europe’s main gas hub and benchmark price, a clear case of liquidity coalescing around the most suitable benchmark for a given market – mainly due to rise in its utility for current and future customers resulting from significant rise in year-on-year TTF’s trading volumes and the network effect of markets. TTF is gradually moving to establish its benchmark status as the Brent equivalent of natural gas.

While Europe has the NBP and TTF as liquid spot markets, Henry Hub (HH) has been a benchmark for North American gas market. However, the use of Louisiana’s Henry Hub predates a global natural gas market and also when US was not a gas exporter. After the shale gas revolution, the US has become second largest exporter of gas (LNG). Today, US export facilities are signing long-term supply contracts that are not just tied to the Louisiana marker – US Gulf Coast LNG is said to be correlated to the TTF as well as price of LNG in North East Asia.

In Asia a gradually establishing spot market is Japan-Korea-Marker (JKM) – JKM has recently been recognized as credible spot market benchmark and Platts Market on Close methodology is now being used for the determination of the JKM price assessment. The development of the liquidity of benchmark hubs, TTF and JKM, is illustrated in Figure-1 by means of the change in churn rates (as in July 2019) – the proportion of the trading volume to physical demand.

Figure 2: Churn rates for benchmark hubs (2015 = 100)

6 Price Volatility in LNG Spot Markets

There has been an unprecedented price volatility in Asia-Pacific and European LNG spot markets, as clearly evident in graph below.

Above graph, while indicating turmoil in LNG Spot prices, is also a clear indicator of sudden rise in European LNG demand that occurred in calendar year 2021. Reason for this rise in LNG demand is Russia – Ukraine conflict. Following table explains how the falling European gas production is making them more and more dependent on imported LNG and Russian piped natural gas. In 2021 around 74 percent of Russian gas exports had destinations in Europe – refer two figures reproduced below:

The Russia – Ukraine crisis and resulting disturbance in natural gas flows from Russia to Europe was the main reason for sharp rise in LNG spot prices. It is evident from the graph in Figure-3 that LNG imports by EU-27 (EU-27 means European Union member states excluding UK) for Jan-Feb 2022 were 2.5 times of LNG imports in Jan-Feb 2021.

In conclusion, it can be deduced that the panic situation causing price havoc in European trading hubs has four reasons:

  • Reduction (and expected further reduction) in Russian natural gas supplies to Europe.
  • Major chunk of existing Asian LNG suppliers as well as US LNG suppliers executed term-agreements with Asian Buyers in 2021 (refer Figure-4)
  • Despite rise in European LNG demand, the top 5 LNG importers in 2021 were Asian countries – procuring significant portion of LNG under long-term contracts (refer Figure-5)
  • Ninety percent of new long-term LNG SPAs executed in 2021 were having Asian Buyers (refer Figure-5)

Figure 4: Long-Term Contracts In 2021 Were Dominated by Asian Buyers

Figure 5: Top LNG Importers & SPA Executions In 2021

7 Technical Conversions