The Fuse

U.S. LNG Arrives in Europe, Set to Compete With Russian Gas

by Nick Cunningham | August 24, 2017

In what has been heralded as the dawn of a new era in American energy, the first U.S. LNG cargo landed in Lithuania on August 21, providing the Baltic nation with another alternative to imported natural gas from Russia. The arrival of U.S. LNG in Russia’s backyard sends a message that Gazprom’s near-monopoly on gas supplies to Eastern Europe could be in danger. Russia accounts for about one-third of the European Union’s natural gas needs, but for much of Eastern Europe, that share is dramatically higher.

The arrival of U.S. LNG in Russia’s backyard sends a message that Gazprom’s near-monopoly on gas supplies to Eastern Europe is in danger.

While the arrival of U.S. LNG is highly symbolic and has geopolitical implication, it does not spell the end of Russian energy dominance in Europe. The volume of LNG coming from the U.S. is still relatively small, and Russia’s state-owned gas giant Gazprom is lowering prices in response, which means it will likely hold onto its European market share. Gazprom is also pursuing other strategies to expand its presence in a rapidly changing energy landscape.

Lithuania celebrates U.S. LNG

Lithuania was fully dependent on imported Russian gas until late 2014, when a floating LNG import terminal, aptly named “Independence,” gave the small Baltic nation the opportunity to purchase LNG from Norway. Lithuania used to pay some of the highest prices for Russian gas in Europe, but LNG imports granted Lithuania much more leverage with Russia. The prospect of a competing source of gas allowed Lithuania to secure a discount from Gazprom and sign a five-year contract with Norway’s Statoil. “From now until forever, our access to LNG puts a cap on what Gazprom can charge us,” Lithuania’s then-Energy Minister Rokas Masiulis said in November 2014.

The cargoes started small, but they have ramped up since then. LNG now accounts for roughly half of Lithuania’s gas needs, with the rest coming from Gazprom. The arrival of LNG from Cheniere Energy’s Sabine Pass facility on the U.S. Gulf Coast in recent days adds another source of gas to rival Gazprom.

“We are happy to reach a point where importing gas from U.S. is not only politically desirable but also commercially viable.”

“We are happy to reach a point where importing gas from U.S. is not only politically desirable but also commercially viable,” Lithuania’s Energy Minister Zygimantas Vaiciunas said on August 21. Lithuania’s Foreign Minister went further, using the occasion to advocate for a stronger alliance with the U.S. The Foreign Affairs Minister, Linas Linkevicius, told Reuters: “We want to cement our relationship with the United States in many aspects in addition to defense and security—energy trade is one of the strategic areas for cooperation.”

Russia not going quietly

Despite the arrival of U.S. LNG in Lithuania, it is not clear that the U.S. has the upper hand on Russia. Gazprom has already lowered prices for its gas to Europe, and it is prepared to cut them further to hold onto market share. Importantly, Gazprom can still out-compete U.S. LNG on price. For European customers, pipeline imports over a relatively short distance is much cheaper than buying gas liquefied from the U.S. that is shipped across the Atlantic.

Gazprom has already lowered prices for its gas to Europe, and it is prepared to cut them further to hold onto market share.

According to S&P Global Platts data cited by the Wall Street Journal, Russia has sold gas to Germany at an average price of $4.86 per MMBtu over the past year, which compares favorably to the average landing price of U.S. LNG in Europe over the same timeframe at $6.29/MMBtu. That disparity will likely hold. Russian gas sales to Europe jumped by 20 percent in 2016 from a year earlier, a sign that European buyers are making purchasing decisions on price, not on geopolitical calculations.

Additionally, Russian market share in Europe is a strategic priority. As of 2015, oil and gas sales make up 43 percent of Russia’s budget, and Europe accounts for three-quarters of Russia’s gas exports, according to the EIA. Gazprom will adjust prices to continue to undercut U.S. LNG to hold onto market share. Against this backdrop, it is hard to see how U.S. LNG exporters grab more than just a small foothold in the European market.

U.S. LNG still changes energy landscape

While U.S. LNG will play second fiddle to pipeline gas from Russia in the European market, the mere fact that Gazprom has granted pricing concessions is a sign that LNG imports are having a significant effect.

Gazprom has traditionally used long-term contracts, locking in customers to fixed prices, often linked to oil prices. But an anti-trust case brought by the European Commission has forced Gazprom to begin overhauling its pricing practices. The concessions include allowing Central and Eastern European countries the ability to periodically review pricing terms, which could lead to reductions if the oil-indexed prices offered by Gazprom diverge from Western European hub prices.

The arrival of more LNG cargoes could put downward pressure on those hub prices and ultimately cap what Gazprom is able to charge its European customers. For Europe, that is a substantial victory.

The arrival of more LNG cargoes could put downward pressure on those hub prices and ultimately cap what Gazprom is able to charge its European customers. For Europe, that is a substantial victory. Nonetheless, U.S. LNG won’t unseat Gazprom. “The option of importing U.S. LNG is being used all over the world as a mechanism for negotiating new long- and short-term prices with other suppliers not used to the emerging competitive environment,” Ira Joseph, head of gas and power analytics at S&P Global Platts, told CNBC. “If U.S. LNG delivered into Europe is consistently higher priced than Russian gas, the trade will not be sustainable.”

Competition to heat up in years ahead

Cheniere Energy has ushered in a new era in which the U.S. has become an LNG exporter, but export volumes have been only modest to date. In 2016, LNG exports from Sabine Pass reached only 4.7 billion cubic meters (bcm), and crucially, only 10 percent of that found its way to Europe. Prices in Europe were too low for the U.S. to export LNG to that market.

Cheniere Energy has ushered in a new era in which the U.S. has become an LNG exporter, but export volumes have been only modest to date.

It is too early to tell, but price dynamics could change in the next few years as a wave of new LNG export terminals is set to come online. U.S. LNG export capacity is expected to shoot up from 14 bcm today to 107 bcm in 2022, which would make it one of the largest LNG exporters in the world, on par with Qatar and Australia. Surging LNG export capacity in the U.S. and around the world will likely keep prices low for the foreseeable future.

But Russia is not idle either. Gazprom is pursuing the Nord Stream 2 pipeline expansion, which will double the system’s capacity to Europe. Although the U.S. has targeted the pipeline with sanctions, it is not clear that the U.S. will derail the project. Moreover, Russia is developing LNG export capacity on the Yamal Peninsula, a project that will come online later this year and add further capacity in 2018 and 2019. The recent arrival of U.S. LNG in Lithuania is the beginning of what will be an ongoing battle for market share in Europe.

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