- Volumes : Electricity volumes were very strong last week (week ended July 1), up 7% in the NEM compared to the previous corresponding period and stronger in every State but particularly in NSW. Across the NEM volumes in the calendar year to date [CYTD] are up closer to 3% than 2%. For the full year ended July 1 the increase across the NEM was about 3.2 TWh (about 3.2 mt co2) and at a retail price of say $.026 KWh produces about $830 m extra revenue for electricity retailers. At an average EBITDA margin of say 6% that’s about $50 m of extra profit pretax across the gentailers in total. That’s just the volume effect. We now turn to prices.
- Future prices: Near term (FY17 and FY18) futures prices rose again this week continuing the steady upwards rise since April. This ensures that consumers in NSW and Victoria will see further prices rises next year on top of the “wires and poles” related increase already (in Victoria) or from July 1 (NSW) that have occurred. The NSW charges may yet be reduced if the appeal to the Full Bench of the Federal Court succeeds but otherwise its back to the same old routine. With our climate change hat on we don’t mind the networks putting up prices. It will cause hardship for some, but broadly discourage consumption, LED lighting, efficient fridges, kettles and clothes dryers, or better pumps on the swimming pool for some of us and encourage substitution (rooftop PV and household storage)
- Spot prices: spot prices remained very high, although with the exception of South Australia mostly below the $300 cap level. When we see spot prices in Victoria as high as $307 MWh it’s hard to believe that the industry needs Hazelwood to close before new generation can be committed. We simply don’t buy AGL’s argument that new generation has to compete with the existing short run variable cost of brown coal generation in Victoria. On that basis no other generation would ever be built. All the brown coal generators have substantial fixed costs in the form of interest and ongoing capital expenditure and need prices way above SRMC to survive. Once built the SRMC of wind and pv is lower than that of even brown coal.
- REC REC prices were up this week, but as we have discussed this is mainly just bad news for consumers. Consumers of gas and electricity are going to be slugged all over the place for the next 12 months and the good news in that is it will cramp consumption. We maintain that the REC system is the wrong approach but we doubt if that will be top of the political agenda this week.
- Gas prices : Gas prices really skyrocketed in the past week particularly in NSW where STTM [short term trading market] ex post prices were over $20 GJ for most of the week. Cold weather and a physically tight market did the damage. Also GLNG train 2, the 5th of 6 QLD LNG trains has started commissioning, although that mostly affects the more or less separate QLD market rather than the Southern States, it is the case that part of the gas for GLNG comes out of the remaining scraps of conventional gas left in the Cooper Basin.
- In two or three years time the gas market may be a lot tighter than today. The high prices will incentivize exploration but at the moment there isn’t much visible progress, the initial productivity of the QLD CSG fields will start to decline and the scramble will be on. That said, historically the Australian gas market goes from boom to bust quite regularly. It’s an old adage but absolutely correct that “the best cure for high prices is high prices”. Left to itself the market will work out an answer, there may be pain along the way but prices will send the right signal and both demand and supply adjust. Finally its worth adding that high gas prices open up head room for renewables, although again the caveat is that renewables increasingly have to come with a deliverability capability. Most of the QLD LNG export volumes are on a long term contract basis that roughly looks like:
Gas price in A$GJ = US$ Brent oil *14%/1.05/ exchange rate
The 1.05 is an energy conversion factor of MMBTU to GJ and the 14% is the slope and can range from 12% to 15%. Brent oil is US$50.44 today and the A$= 0.75 so that says the contract export oil price is ~A$9.00. So that’s broadly equal to the domestic gas price once shipping costs are adjusted for.
- Share prices: Most utilities underperformed a soft broader market driven by macro fears. APA and AGL were the best performers
Share prices were broadly soft in a week that was dominated by Macro news rather than anything on the corporate front. The best performer was APA. APA as the owner of most of the gas transmission infrastructure in Eastern NSW is in a strong position to earn short term revenue whenever gas prices spike.
When customers see high gas prices they will work on getting gas from one place and shifting it to another. This may involve buying short term capacity on gas transmission. Last year APA made over $20 m of sales, fairly small in its over all revenue mix, but a bigger percentage of the net profit. Since APA’s costs are fixed and relatively low, a big percentage of every extra dollar of revenue drops through to the profit line.
APA’s share price has been held back over the past 12 months partly because the business has not found any new investment opportunities, missing out in auctions for the Victorian gas storage at Iona and the contract to build new gas transmission linking the Northern Territory to the East Coast gas network.
The share price has also been held back by concerns the ACCC may impose additional regulatory constraints on APA’s pipes. Although the pipes are notionally regulated already in practice the majority of the revenue comes from so called “foundation” contracts where a shipper agrees to pay APA a more or less fixed amount each year in return for APA expanding the pipe.
The ACCC believes that small shiippers may be disadvantaged by this process. My reading of the ACCC enquiry documents lead me to believe that it’s the gas producers that are the main problem not APA but the ACCC may see it differently.
Base load futures
David Leitch is principal of ITK. He was formerly a Utility Analyst for leading investment banks over the past 30 years. The views expressed are his own. Please note our new section, Energy Markets, which will include analysis from Leitch on the energy markets and broader energy issues. And also note our live generation widget, and the APVI solar contribution.
David Leitch is a regular contributor to Renew Economy. He is principal at ITK, specialising in analysis of electricity, gas and decarbonisation drawn from 33 years experience in stockbroking research & analysis for UBS, JPMorgan and predecessor firms.