ANALYSIS – By deciding to suspend the operation of the Nord Stream 1 gas pipeline indefinitely, Russia has used one of its last cards in the energy war with Europe.

The timing of such a decision coincided with the green light from the G7 countries for the introduction of a price cap on Russian oil, which is probably not a coincidence.

However, Russia continues to supply gas to Europe via Ukraine (approx. 1.2 bn cubic meters per month) and Turkstream-a (approx. 1.1 bn cubic meters per month). We believe that the remaining supply, which partly ends up in the EU (i.e. HU, AT, IT) and in non-EU countries (i.e. Serbia, Montenegro), will also face a growing risk of supply disruptions in the event of increased Western pressure on the Russian energy sector.

Along with milder weather during last winter, gas consumption in the EU in the first quarter of 2022 (-8% year-on-year) and the second quarter of 2022 (-16% year-on-year) suggests that Europe experienced a price-induced drop in demand (especially in the second quarter), and we expect the same to accelerate in the second half of the year. On an annual basis, a 20% drop in gas consumption in the second half of this year would achieve the European Union's targets for reducing gas consumption in 2022, without the need to introduce gas rationing. Assuming average temperatures during the next winter, we forecast a decline in European gas consumption in 2023 by approximately 4% year-on-year, that is, to 335 billion cubic meters (from 350 bn cubic meters in 2022 and 412 bn cubic meters in 2021).

As a result of lower gas consumption and stronger LNG inflows (+30 bn cubic m in the period from January to 22 August or +55% year-on-year), the EU's target of filling gas storage facilities to at least 80% was met before the October deadline. According to our projections, the EU is ready to cover its gas demand during the next heating season even without inflows from Russia. We estimate that European gas storage facilities should be filled to approximately 22% of capacity at the end of the first quarter of 2023, under certain conditions such as a 15% drop in demand in 2022, LNG inflows of approximately 10 bn cubic meters per month in the second half of 2022 and, of course, a relatively mild winter.

The European Union must secure more LNG to cover its consumption next year. However, the situation on the European gas market could worsen further next year. According to our projections, European gas storage facilities could be filled to only 63% of capacity before the winter of 2023/2024 (compared to approx. 90% this year), which would require greater gas savings through additional demand reduction and greater reliance on alternative energy sources. LNG is expected to increase to 47% of total consumption in 2023 (compared to 35% in 2022).

Currently, gas futures contracts (TTF) indicate a price level of approx. 190 €/MWh in the fourth quarter of 2022 and the first quarter of 2023, and approx. 160 €/MWh for the period between the second and fourth quarters of 2023. We believe that the high level of gas in storage and the decline in demand caused by the high gas price should significantly reduce the risk premium built into European gas prices. Therefore, we would expect European gas prices to move between 100 and 150 euros per megawatt hour in the fourth quarter of 2022 and 100 euros per megawatt hour in the first quarter of 2023. European gas prices could rise again in the third quarter of 2023 (to levels above 200€/MWh, as recorded this summer) given that achieving a safe level of gas in storage (of at least 80%) before the start of winter 2023/2024 would require higher price levels in order to attract the necessary amount of LNG.

Accordingly, we would expect gas prices to move between 150 and 200 €/MWh in the second half of 2023. Besides the weather, the key risk factor is LNG inflows. Therefore, developments in gas demand in Asia (i.e. weather, gas demand in China) together with the availability of new LNG supply (i.e. new LNG projects in the USA, Norway and Mozambique) would have a direct impact on European gas prices due to Europe's greater reliance on LNG supply.

Source: seebiz.eu