Indian LNG demand shift to long-term contracts weighed with risks

Indian demand for LNG cargoes in the spot market is expected to slow down over the next two years as procurement shifts to medium-term and long-term contracts signed by importers, some starting as early as April, according to market participants.

The higher reliance on term contracts could be poorly timed as the market expects a flush of new supply that could drive spot prices lower, leaving Indian buyers exposed to more expensive contracted LNG.

A mix of new long-term contracts totaling nearly 6 million mt/year of LNG supply, with tenures of five years and higher, have commencement dates staggered over the next two years, gradually eating into India's spot market demand.

The ones starting in April are a five-year deal between GAIL and QatarEnergy Trading, a wholly-owned subsidiary of QatarEnergy, for one cargo per month and Bharat Petroleum Corp Ltd's (BPCL) contract with ADNOC Trading for at least six cargoes per year for a five-year tenure.

The pricing for the two contracts is similar with a slope of 115-121% to Henry Hub prices, with a constant of $5.6-$5.8/MMBtu, Platts, part of S&P Global Commodity Insights, reported earlier.

These contracted volumes are cheaper than current spot LNG prices of around $13/MMBtu and the forward curve for LNG in 2025 and 2026, but they will become more expensive for buyers when spot prices fall from 2027 onward as more supply hits the market.

"Such an approach is dangerous in India. The approach is alright if the volume is already sold downstream with enough operational legroom, but customers can default if spot LNG prices start consistently being lower than these term prices," a Singapore-based source said.

An Indian source said that the fear of missing out is pushing some companies to replicate deals without distinguishing the separate nature of portfolios for different aggregators in India.

India's downstream LNG demand profile is unique compared with countries like Japan and South Korea, where it mostly goes into the power sector. In India, around 35% of LNG demand is feedstock for industries like fertilizer production, around 29% is for industrial use, around 11% is for transport, 10% is for power generation, and the remaining is used in refineries, residential and commercial sectors.

However, many downstream LNG consumers do not lock in demand for several years.

There was a danger that LNG buyers were going overboard with signing long-term contracts without first signing downstream customers, and in the absence of such customers, aggregators in sectors like refineries would have to absorb the higher-priced LNG that impacts refining margins, a second Indian source said.

Moreover, heavy marketing efforts by Middle East suppliers and geopolitical pressure from the US under the Trump administration are also forcing companies to sign long-term contracts.

Price mismatch risk

The bulk of long-term contracts signed by Indian importers rely on non-LNG pricing indexations such as crude oil slopes or Henry Hub, which are subject to fundamentals of crude oil and US natural gas markets.

Asian importers have historically used oil slopes, calculated as a percentage of crude oil prices, as a proxy to price LNG contracts from a time when the LNG market was nascent, and buyers were looking to substitute oil products in the downstream market.

However, a robust derivatives market for LNG plus a growing pie of spot market globally tests the utility of pricing LNG to non-LNG commodities, especially when fundamentally the commodities may be impacted by independent supply-demand factors.

In the past, Indian market participants have faced extended scenarios with spot LNG prices below term contract prices that were linked to non-LNG prices, causing price disputes and other disagreements.

While market perception has been affected by recency bias, with record-high LNG prices since the Ukraine crisis, during 2018-2021, Indian LNG importers struggled to justify existing long-term LNG contracts that were significantly more expensive than spot LNG prices.

Over 2018-2021, West India Marker, the LNG price for cargoes delivered to India and Kuwait, was on average more than $2/MMBtu lower than contracted LNG priced at a 12.67% crude oil slope plus a constant of 82 cents/MMBtu. Spot LNG prices in this period were also lower than Henry Hub-linked US LNG.

LNG forward curves for the duration of GAIL and BPCL's term deals indicate that spot LNG prices would be cheaper starting in 2027-28.

Another Indian source said that Indian companies have renegotiated contracts in the last decade, and if spot prices persist below term contracts later this decade, there is a high risk of a similar mismatch in prices again.