On June 20th, Centrica announced the permanent closure of Rough gas storage, situated 29km offshore Easington in Great Britain. This news could be overlooked by many if it were not because it accounts for 70% of UK storage capacity, equivalent to 9 days of gas supply, and can supply 10% of peak daily whole country gas demand in winter. We are therefore facing a radical change in the current dynamics of internal gas management for the UK, which will undoubtedly affect the European gas market.
Source:: National Grid
NOT A SURPRISE
The news has not caught off guard the energy sector or the agents involved. The storage, which began operating as such in 1985, has now more than a year without making new injections as a precaution amid concerns about the integrity of its wells, which would have reached its design life. In July 2016, tests were carried out to verify the state of the infrastructure and last April, the management company indicated that no further injections would be carried out during 2017 and 2018. Finally, on Tuesday, June 20th, Centrica announced the permanent closure for security reasons but also economic ones, since the reconstruction and start-up of the storage would be too costly to make the infrastructure profitable. In fact, Centrica reported losses in 2016 of 57 million pounds ($ 72 million). In the next 4-5 years, recoverable gas is expected to be extracted, estimated at 183 bcf (5.2 bcm), equivalent to 7% of the country’s consumption in 2016. This remaining gas responds to the gas cushion that maintains the minimum pressure in the reservoir. The production of this gas will allow to cover part of the costs of closing and decommissioning the equipment, which is quantified around 100 million pounds.
Rough began its activity as a key infrastructure to manage domestic gas production in the North Sea. Today, with lower domestic production, gas storage allowed mainly to provide flexibility and security of supply to the country, injecting gas in summer to cover the higher winter consumption caused by the colder weather, while achieving soften prices throughout the year. In spite of this strategic aspect, in recent years the English government has not taken measures to avoid the current situation of closure, despite the risk of supply and loss of operational flexibility. This is due to the fact that the gas demand to store has decreased considerably in recent years as a result of the global gas oversupply and the construction of new LNG terminals (such as The Isle of Grain, Dragon and South Hook), which allows a greater entry of LNG from Qatar, that provides this flexibility in the short term. In addition, the potential for increased LNG from other sources, such as the US or Australia, further discourages the need to invest in storage.
ROUGH CLOSURE IMPACT
One of the direct consequences of Rough’s closure, therefore, is the increase in UK dependence on gas imports. Currently it accounts for approximately 55% of UK gas input: 38% from pipeline from Norway and Russia, and 17% from LNG from Qatar.
Source: British Gas
UK has enough import infrastructure to replace the volumes of gas supplied by Rough. Last year, in fact, Rough only contributed an average of 5 mcm/day, with a maximum of 23 mcm/day, half of what it had contributed in previous years, when it had covered 10% of the demand on cold days.
On one hand, UK can expand its imports through bi-directional interconnections with Belgium and the Netherlands. Last winter, the average flow was 29 mcm/day, with a maximum close to 85 mcm/day. National Grid says it could reach 94 mcm/day. However, this flow will be determined by the premium that exists between the NBP and the benchmarks of its neighboring hubs such as the Dutch TTF (Title Transfer Facility) or the Zeebrugge in Belgium.
On the other hand, the capacity of import by LNG still has more room to increase. Last winter the LNG terminals contributed an average of 11 mcm/day, with a maximum of 33 mcm/day. National Grid estimates they could reach 100 mcm/day next winter.
The increase in dependence on gas imports to the UK, especially LNG, becomes more relevant considering the following current scenarios:
- Lower domestic production is expected in the North Sea in the coming years.
- Gas is becoming increasingly important in the electricity generation mix in UK, where it already reaches 40%, and provides heat to 80% of homes. The reasons for this increased gas demand for electricity are based on the current government measures of progressive reduction of coal generation by 2025 and of nuclear decommissing in the country until 2030.
- The future on the operation of the IUK connector, which unites UK with Belgium, is still to be defined in the Brexit negotiations.
In fact, the effects of this dependence on LNG have already been felt in the market this year, as happened last month due to the doubts that assaulted on the fulfillment of two deliveries of LNG from Qatar. Two ships changed their route, avoiding to pass through the Suez Canal, just when it was announced the blockade to Qatar by its neighbors of the Gulf. The change in route meant a late delivery and even its final destination was questioned. All this caused a daily rebound in gas prices for delivery in July. Even so, it was a timely impact, the current situation with Qatar is not affecting LNG deliveries, which still maintain the route through the Suez Canal.
Source: ICIS, division of Reed Business Information, part of RELX Group.
Another important impact of the closure of Rough is that it will lead to a change in the LNG deliveries patterns to UK. In the absence of the gas storage, LNG deliveries will be used to cover short demand, so fewer deliveries will be made in summer and more in winter.
This may lead to an increase in price volatility and uncertainty, especially in periods of higher demand in winter, when UK will be more exposed to market conditions, having to compete with Asia for LNG ships. Therefore, the National Balanced Point (NBP) index will become a benchmark with lower liquidity, lower trading volume and greater volatility, losing strength against the Dutch TTF, which will gain in importance by definitively establishing itself as the reference price index of gas in Europe.
The strong dependence of UK on gas imports may imply a higher premium in prices between NBP and TTF. This could alter the flow of gas by the IUK (Interconnector UK with Belgium) which today acts as a two-way pipeline. The spread between NBP and TTF provides the direction of gas flow, along with Norway’s ability to switch supplies to UK or Europe as well as LNG regasification.
In conclusion, in the coming years we will see how the effect of Rough’s closure on gas prices in the UK ends up affecting the TTF reference and the other hubs in Europe, increasing their volatility and seasonality in prices, although less than NBP index itself.
Susana Gómez | Energy Consultant