31 July 2015
UK energy prices continued to trend lower with gas prices down 3.6% to 1.49p/kWh and electricity prices down 1.6% to 4.30p/kWh. Oil prices were down 18% at $52.21/barrel, coal prices were up 0.5% at $58/tonne and carbon permits were up 5.8% to €7.87/tonne.
Oil prices slid 16% during the month due to possible new oil supplies from Iran, following positive developments in negotiations with US over the nuclear stand-off. Although agreement still needs to be ratified by both sides. political apparatus. Prices recovered slightly yesterday based on US Energy Information Agency report showing a large drop in US stockpiles and lower production levels last week. Global energy producers continue to cancel or postpone investments in exploring and developing more new sites, with Shell and Centrica latest to each announce laying off about 6,000 staff on the exploration side of their businesses.
US published GDP growth of 2.3% for the 2nd quarter, but this was alongside a small downward revision to last 4 years growth figures. On the other hand this increases the risk of the Fed raising interest rates this year. Other positive developments were the progress made on the ‘Grexit’ risks by Greece, Europe and IMF. However big risks remain as Chinese investors lose confidence in their share market and government struggles to support price levels. There are concerns over the sustainability of Chinese growth and debt levels, but Chinese institutions remain capable of further monetary support and influence.
During the month, Conservatives announced two changes to renewable energy subsidy regulations. George Osborne’s budget announced the removal of climate change levy subsidies for renewable generators, which is equivalent to about 10% of the wholesale price renewable generators can secure for their output. Later in the month, the Energy Secretary, Amber Rudd, announced a ceiling for subsidies available for renewable energy and removal of subsidies for onshore wind power. This was due to reaching budget caps set for the period through to 2020 and the change was justified by falling technology costs.
For the first time, buying wholesale electricity for delivery in three years is cheaper than buying electricity for delivery next year. In financial markets and risk management jargon, this is called ‘backwardation’, as opposed to a normal ‘contango’ situation where future prices are higher. 2nd year electricity is still slightly more expensive than this year.
We believe that current energy prices provide good value, remaining below historical average prices. Despite the risks across the global economy, we believe that the resilience of the US economy will lead global economic growth although slow and bumpy. Therefore, we expect higher prices over the next few years following recovering oil prices as oil suppliers struggle with losses at current prices; as rising global demand soak up excess supplies coming to market; and as new shale oil supplies from US reach their peak. Also, gas prices are close to the floor set by the level where coal generation switches to gas. However, on the other hand, there is a heightened risk of even lower prices over next year as the LNG supply glut grows in Asia-Pacific; and if global economic growth continues to slow.
Energy buyers preferring fixed price contracts should lock out prices for up to 3 years in order to take advantage of current low energy prices and avoid risk of increasing oil prices. However, we would recommend implementing a hedging strategy to avoid uncertainty and price volatility, given the emerging LNG gas glut and risk of slower economic growth. This would involve purchasing a flexible purchase contract and locking away prices in layered tranches.
Energy buyers prepared to take on some budget risk for even lower prices may prefer spot-based hedging strategies. Especially with an LNG supply glut forming and potential for Qatar LNG selling on the European spot markets.
When tendering your supply contracts, environmental taxes and subsidies need to be carefully negotiated to ensure that any fixed and pass-through components are fully understood and benchmarked correctly across different energy suppliers’ offers. Also ask about subsidy pass-through costs from Electricity Market Reform in particular CFD costs which will start to pass through to bills in 2015 and CMs in 2016.
Beond’s risk service and online risk tools include a broad range of innovative hedging strategies which can deliver considerable cost savings at no additional risk, by harnessing market uncertainty and price volatility. Also our tender service uses an online reverse auction which creates an intensely competitive environment to produce best prices and full transparency.
These views and recommendations are offered for your consideration and Beond makes every effort to ensure that the data and information in this report is accurate. However, due to the volatile and unpredictable nature of the energy markets, Beond cannot guarantee the accuracy of both the information and the recommendations provided. Beond does not accept any responsibility for errors or misstatements, or for any direct, indirect, consequential or other loss arising from any use of this information and/or further communication in relation to this information