Gas price surge threatens bigger bills

European gas prices are linked to oil, which hit a record of $119.93 last week, but the effect has been stronger on Britain’s liberalized market, where traders are adding a risk premium over concern that enough fuel will come to the country next winter. Some analysts say forward British gas prices are unsustainably high and should tumble by the time winter arrives. But, with the OPEC among those warning oil could keep rising, others see little chance of a big fall in energy costs. “The key driver here is economic growth in the Far East and while that remains strong it is difficult to see any short-term relief from high oil prices,” Andrew Wright, director of markets at energy regulator Ofgem told an industry seminar last week. “I would take the very strong gas prices for next winter very seriously.”

Wholesale British gas prices for next winter hit a contract high of 85 pence per therm on April 22, almost 50% higher than in January, and have remained above 80 pence since. Winter prices are not quite at the levels seen after Britain’s biggest gas storage site, Rough, caught fire in early 2006, stoking fears of possible winter supply shortages. But the surge in prices that followed the fire was a serious threat to supplies and came before Britain’s import capacity was boosted by new pipelines from Norway and the Netherlands. “You can understand two years ago why the prices were very high because we were very short of gas. But the supply situation is very comfortable for the coming winter,” Niall Trimble, managing director of the Energy Contract Company said. “You have got 85 pence for the winter, it’s absolutely absurd.”

STIFF COMPETITION
Although most British gas supply contracts are not directly linked to the price of oil, long-term supply contracts in the rest of Europe tend to be. Whereas before Britain was largely self sufficient, it must now compete for supplies from big producers like Norway. That has made traders add a risk premium for gas to be delivered during the peak demand winter season, as declining North Sea gas production makes it more dependent on imports. There is a knock-on effect for power prices, as much of Britain’s power is generated from gas. The more bearish analysts say, British prices have already risen enough to attract gas from Europe this winter. “European gas prices will go up but they won’t go up anywhere near that much. Sooner or later gravity will reassert itself and it will all come crashing down,” Trimble said.

Trimble estimates that oil CLc1 at $115 a barrel would price Continental European gas contracts at around 65-68 pence for the Q4 of this year. In late April, Q4 contracts traded above 82 pence, although prices have since come down. “The forward market looks overcooked where it is at the moment. But you can see why there is a lack of sellers, why people aren’t willing to take risks,” said Mark Daubney, head of market reports at energy consultants John Hall Associates. “The gas may fail to flow again at the required levels. We haven’t got the storage that the rest of Europe has as a security blanket. If the gas flows this winter, that will soften prices but until that happens and it’s proven then there’s obviously a risk premium built into it.”

A British gas trader said the surge in forward prices since the start of April had been overdone and that prices were already high enough to attract plenty of gas from Belgium, Norway and the Netherlands next winter. “There’s already healthy premium to European contract prices. Yet you will still see people buying because oil has gone up,” he said. “There’s nothing intelligent about what’s going on.”

Britain’s big six household energy suppliers have all raised their gas and power prices once this year, blaming rising wholesale energy prices. Because utilities buy much of the energy they need to supply their customers on forward contracts, this year’s rise in wholesale prices has not been passed on to most consumers yet. But unless there is a sustained decline in wholesale prices, gas and electricity bills will inevitably get bigger for everybody. When that happens will depend on what terms suppliers have bought the energy for their customers and how long they are prepared to wait before passing the higher wholesale costs on. (Reuters)