Quarterly Insight Q2-2018

Wholesale Market Changes

Gas
p/therm 29 Dec 17 28 Mar 17 Change
April 2018 12M 48.92 49.53 1.2%

 

Power
£/MWh 29 Dec 17 28 Mar 17 Change
April 2018 12M 47.63 49.89 4.7%

Source: ICE

UK gas and electricity prices were bullish during Q1-2018, as cold weather originating from Siberia, dubbed the Beast from the East, hit Britain with significantly colder temperature and boosting gas demand to be used in heating and gas-fired power generation. In early March, spot gas prices skyrocketed to 230 p/therm after the National Grid issued an official alert warning that Britain did not have enough gas to meet demand.

Pipelines importing gas into the UK from the Netherlands and Belgium were already encountering supply problems. Then National Grid forecast daily demand of 404 mcm, more than 100 mcm above the average for the time of year. Gas storage facilities have traditionally helped smooth out price spikes over the winter, however Rough’s closure has made Britain more exposed to sudden price swings during times of high demand.

Despite this, milder weather returned at the end of March meaning gas prices ended the quarter just 1.2% higher overall at 49.53 p/therm, with electricity prices up 4.7% to £49.89/MWh driven by rising crude oil, coal and European power prices.

Brent crude oil prices rose to their highest level since mid-2015 amid bullish comments from Saudi Arabia suggesting production cuts may be extended into 2019 to reduce excess global inventories and concerns over the future of Iranian crude exports. As a result, the benchmark Brent crude contract increased 1.0% to $67.64/bbl quarter-on-quarter.

Outlook: Prices are expected to rise significantly in Q2-2018 as President Donald Trump indicates the U.S. may withdraw from Iran’s nuclear deal and reintroduce sanctions on oil exports, reducing global supply and boosting prices of not only oil, but gas and electricity as well. Supply disruptions from Russia and Libya into Continental Europe are also expected to generate further bullish sentiment for the October-2018 contract. Therefore, energy users that have not already secured their volume with a 2018 start, may wish to take action immediately.

Quarterly Energy Insight Q2-2018
Source: ICE
Quarterly Energy Insight Q2-2018
Source: ICE

Electricity Cost Breakdown

Quarterly Energy Insight Q2-2018

Overall electricity costs estimated to rise 1.70 p/kWh from Apr-17 to Apr-18

There is no doubt that the introduction of new schemes to support renewable generation growth and security of supply have played a major role in the increasing cost of non-energy charges in electricity bills in recent years. In particular, the most significant non-energy cost increases from Apr-17 to Apr-18 are forecast to be:

  • Renewables Obligation (RO) Û35 p/kWh
  • Contracts for Difference (CfD) Û20 p/kWh
  • Capacity Market (CM) Û21 p/kWh

One of the biggest planned changes to the energy tax landscape over the coming years is coming in April 2019, when the CRC scheme (a huge administrative and cost burden on participating businesses) is abolished. In its place, businesses will see a significant increase to the CCL rate (see below).

A full breakdown of electricity costs is available on the last page of this report.

Network Charges

  • National Grid has been able to secure lower CM payments for the recent T-4 auction. This means that while the majority of CM contracts have secured a price of between £18-22.50/kW for capacity from 2018-21, CM payments from 2021-22 will only be £8.40/kW.
  • Following a failed injunction attempt, from April 2018 Ofgem has introduced cuts to payments for smaller power generators that export during peak demand periods. The main element, the TNUoS residual (or Triad payment), was set to be cut from £45/kW to between £3-7/kW over three years from April 2018, which Ofgem says could potentially save consumers up to £7bn by 2034.
  • Since April 2018, National Grid has split up the Transmission Losses into the 14 distribution zones across the UK. This is in order to better reflect the losses is the electricity transmission system across the UK. The impact of this means that losses will reduce in the North and increase in the South (especially London) from April 2018. The losses will vary on a seasonal basis. Losses in areas such as London could increase by up to 3x from 1.1% to 3% during winter months.

Environmental Taxes & Levies

  • The exemption for energy intensive industries (EIIs) is now in place for both the CFD (since Nov 2017) and RO (since April 2018) schemes, with non-EII businesses picking up the EII costs. The majority of consumers who do not have an EII exemption, will have to pay a combined 0.161 p/kWh uplift (included in the estimates above). Rather than a rebate, the change will directly exempt EIIs from 85% of the cost of these schemes. An exemption from FIT is expected to follow in 2019, subject to State Aid approval.
  • The CRC scheme is being abolished from April 2019 to coincide with a significant rate increase of the CCL. Businesses who were previously required to report on their emissions via the CRC scheme will see a net cost benefit, as the higher rate of CCL will be below the combined rate of CRC and CCL that will run until March 2019. However, businesses not involved in CRC should be careful to budget for the increase in total electricity supply costs.

What’s coming up?

Electricity:

  • Companies that fall under the remit of the Carbon Reduction Commitment (CRC) scheme should ensure to plan for deadlines taking place in Q2-2018.
  • Since 1 April 2018, regulation DCP 161 has been in force. DCP 161 is a new Ofgem measure to ensure HH electricity supplies that exceed their assigned availability capacity will pay significantly more. It is therefore important that firms monitor their maximum demand to ensure that the agreed availability capacities of their impacted HH electricity meters are accurate.
  • National Grid’s decision to split up the Transmission Losses into the 14 distribution zones across the UK means that losses have reduced in the North and increase in the South (especially London) from April 2018. The losses will vary on a seasonal basis. Losses in areas such as London could increase by up to 3x from 1.1% to 3% during winter months.
  • The UK is expected to rise in EY’s latest Energy Country Attractiveness Index (RECAI) rankings, which tracks the investment appetite for clean energy across the globe. The arrival of subsidy-free solar and the development of onshore wind projects for commercial generation is a considerable boost for renewables investors.
  • An exemption for energy intensive industries (EIIs) from FIT is on target to be introduced from 1 April 2019, subject to EU State Aid approval. The FIT scheme will remain compensation-based until further notice.
  • Ofgem has confirmed the allowances of some of Britain’s electricity distribution network operators (DNOs) will be reduced by around £200 million. The reduction is expected to result in lower network charges on energy bills with effect from 1 April 2019.

Economics & Financial Markets:

  • Following the decision by the Bank of England to raise interest rates from 0.25% to 0.5% at the start of November 2017, the BoE’s Monetary Policy Committee is set to consider a further increase in May 2018.
  • The Bank of England has lowered its forecasts for UK GDP growth to 1.4% (previously 1.8%) for 2018, with inflation set to drop. However, the labour market has been noted as being strong.

Gas:

  • Centrica has announced that its Rough gas storage site will produce approximately 1.4-1.7 bcm of gas during 2018, slightly above expectations. Rough Storage used to provide around 70% of Britain’s gas storage capacity but was closed last year after it became too costly to maintain the 30-year-old site. As a result, Centrica reclassified Rough in order to sell off the remaining ‘cushion gas’ supplies held in store.
  • Ofgem is set to rule on urgent proposals tabled by gas suppliers aiming to resolve the chaos caused by the new Unidentified Gas (UIG) charge that created significant uncertainty for gas consumers:
    • Mod 0642 fixes UIG at 1.1%, Mod 0642A fixes UIG at 3% and Mod 0643 fixes UIG at 1.1% with retrospective calculations.
    • Under the previous regime, the cost incurred through Unallocated Gas (UAG) cost for I&C customers was only between 1% and 2% of the total gas bill. However, in the new regime introduced by Project Nexus, the monthly costs reported by suppliers has been between 6% and 11%, although there are recent reports of <5%. Whatever the chosen direction, a software change could take 35 to 50 weeks.

Oil:

  • OPEC’s next meeting is scheduled to take place in June 2018. Member states are likely to discuss plans to phase out production cuts after the agreed deadline at the end of 2018. Saudi Arabia suggesting production cuts may be extended into 2019 to reduce excess global inventories.
  • The United States’ withdrawal from the Iran nuclear deal and the re-imposition of sanctions against its economy is expected to hit Iran’s oil exports, while Venezuelan supply is also taking a hit after economic and political crises impact its energy industry.

Geo-Politics:

  • Iraq’s parliamentary elections are taking place mid-May, the first big election since wrestling control of the country back from ISIS. Many experts are predicting Prime Minister Haider al-Abadi could lose power, dealing a blow to U.S. influence in the country.

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Disclaimer: 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.