LNG market continues to push for alternatives to oil indexation

Singapore — The LNG market continues to seek alternatives to oil indexation and move towards a pricing mechanism that truly reflects LNG market fundamentals, although producers remain concerned about low prices jeopardizing future supply, executives said at the Japan LNG Producer-Consumer Conference 2020.

Low spot prices and an oversupplied LNG market have pushed the adoption of spot benchmarks like Platts Japan Korea Marker in recent months and executives said at a virtual panel discussion that the price discovery process was still a work in progress.

There was a lack of consensus about what a final market-based pricing mechanism would look like, especially because different players had their own pricing needs.

This year, several Asian companies that had bought LNG at oil-linked prices were forced to resell their cargoes at lower spot prices, resulting in losses that could have been avoided if there was a common LNG pricing index in the region, Hiroki Sato, managing executive officer at JERA, said.

"The price gap is a very big risk for the trading business in the Asian market. But if we have a common index, there would be no need to worry about the price index gap," Sato said.

His concerns stemmed from the fact that many Japanese LNG importers have over-committed to long-term LNG deals at relatively high price slopes, and demand has grown more uncertain due to the government's push towards net zero carbon emissions by 2050.

Malaysia's state-run LNG exporter Petronas was concerned that low spot prices did not provide enough protection to sellers, and said a "harmonious LNG market cannot fully depend on spot prices" due to the need for extensive capital investment and project economics.

Petronas has already used hybrid pricing formula in supply contracts, diversified pricing exposure against a single index price and even adopted China's domestic LNG trucking prices in its long-term sales and purchase agreements, Shamsairi Mohd Ibrahim, vice president, LNG Marketing & Trading, said.

Shamsairi introduced a new pricing model for Petronas' long-term contracts from the LNG Canada project, which it said would come onstream in 2024, based on AECO hub prices.

"As you are already aware, AECO is the largest natural gas hub in Canada, which is a reliable, transparent and highly liquid Index," he said, adding that AECO was close to Asia's JKTC market and was a liquid, transparent spot and futures gas market.

True spot price benchmark

Ryosuke Tsugaru, an executive at Mitsubishi's trading arm Diamond Gas International, made a strong pitch for strengthening spot price benchmarks like JKM.

"We at Diamond Gas International have recently concluded a number of JKM-based term transactions and we are receiving more and more inquiries for transactions based on JKM," Tsugaru said, adding that market-based pricing was critical to allow LNG penetration and demand growth in Asia, displacing coal and petroleum products.

Tsugaru, who is chief operating officer at the New LNG Venture & Marketing Division of Mitsubishi's Natural Gas Group, said it was natural to expect gas pricing in Asia to follow what happened in Europe and North America as gas gains greater market penetration.

"While JKM has started functioning as a gas on gas index in Asia, it is still at an early stage of development," he said, and called for active participation of producers and consumers to increase liquidity on the Platts Market on Close assessment process.

Total's Laurent Vivier, president of the French major's gas business, said that in order to establish JKM as a reliable pricing mechanism it needs to be widely used in downstream domestic markets, as a marker for LNG imports and to reflect gas-to-gas competition in domestic markets.

"We all know JKM has increased substantially its volumes and we've moved from 9.6 million mt in 2017 to more than 80 million mt in 2020," he said. "And this goes hand in hand with the development of the spot market as well."

While Total said it had already introduced elements of spot pricing in upstream decisions, Japan Bank for International Cooperation (JBIC) said the lender had adopted various gas price benchmarks in its financing for projects like Mozambique LNG.

Japanese offtakers with contracts for around 4 million mt/year have used a diversified pricing formula that includes gas hubs like TTF, National Balancing Point, a French gas index and Japan's crude cocktail or JCC, Tadashi Maeda, JBIC's governor said.

He said this was the first time such a diversified pricing formula had been used, and going forward LNG pricing may even have to include elements of renewable energy pricing to keep up with decarbonization trends.