Know your NEM: It’s all about the price of gas

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Gas prices surge, and spot electricity prices remain high – undermining arguments that coal generators need to close before new renewables can be built.

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Figure 9: Baseload futures financial year time weighted average
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  • 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

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Figure 1: Summary
Figure 1: Summary

Share prices

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.

Figure 2: Summary share price movements
Figure 2: Summary share price movements

 

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Figure 3: Weekly and monthly share price performance

Volumes

Figure 4: electricity volumes
Figure 4: electricity volumes

Base load futures

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Figure 9: Baseload futures financial year time weighted average
Figure 9: Baseload futures financial year time weighted average

Gas prices

Figure 10: STTM gas prices, 30 day moving average
Figure 10: STTM gas prices, 30 day moving average

 

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.

 

 

 

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5 Comments
  1. Tim Forcey 3 years ago

    The other day when gas price hit $29/GJ in Sydney, AEMO’s gas market bulletin board graphic showed gas flowing from the QLD coal seam gas fields to Moomba and then on to Sydney. http://www.gasbb.com.au

  2. Tim Forcey 3 years ago

    Gas vs Renewables: In lieu of using gas, we are heating our house with a heat pump (aka reverse cycle air con), harvesting renewable ambient heat from the air outside our house. https://reneweconomy.com.au/2015/the-cheapest-way-to-heat-your-home-with-renewable-energy-just-flick-a-switch-92274

  3. Don McMillan 3 years ago

    Future prices. “cause hardship for some” These are the poor people. Sacrificed for the good?

    Gas prices will continue to increase. Ironically Australia is geologically a gas continent. But the activists have won. We choose to have high gas prices. Easy to blame CSG-LNG but in reality cheap gas prices come from locally produced gas [NSW, VIC] – no pipeline tariffs.

    “the best cure for high prices is high prices” this is only true in a free market. The activists have won which is why there is no investment in gas exploration for the Domestic gas market. Gas prices will come down as factories [38,000 jobs] move overseas.

    • Giles 3 years ago

      activists? The people arguing most forcefully against gas reservation policies are the gas producers themselves, hardly describe them as activists.

      • Don McMillan 3 years ago

        The activists I am referring to are the ones that want to prevent gas exploration. In a strange way gas reservation has occurred in Tasmania, Victoria and NSW. So it is the communities’ choice if they want low gas prices and maintain their manufacturing industry. For example, Incitec Pivot have opened a new chemical plant in the USA and warned they may have to shutdown their fertiliser plant [ASX 10May16] due to natural gas issues. IPLs call for politicians, farmers and gas producers to consider the consequences on importing fertiliser have fallen on deaf ears. Nobody cares. Inevitably, we’ll import fertiliser and in doing so lose control on its quality. Once this fertiliser is spread across the land you cannot take it back.

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