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The Future Role of LNG

Will liquefied natural gas catalyze a global natural gas market?
Fortnightly Magazine - November 1 2002

to the United States show that the LNG market, which had previously been dominated by long-term contracts, is increasingly receptive to short-term spot trading, and is developing into a flexible market.

New projects such as the involvement of El Paso Global LNG in Snovit, Norway and the activities of Royal Shell/Mitsubishi in Venezuela, both probably destined for Cove Point in the United States, plus the increase in activities at the U.S. import terminals, underline the growing importance of LNG for the United States.

The United States, with its highly liquid gas market, is an interesting sales market for LNG if price formation is based on netback to Henry Hub. Realizing cost effects and exploiting arbitrage opportunities will be key factors in successfully playing the market in the future.

LNG will therefore continue to gain importance for all three sales regions described above. Driven by the upstream business, the arbitrage opportunities in the Atlantic Basin will link the European and American downstream markets. The direct impact on the availability of total volume, or even the price indication above and beyond the Atlantic, appears unlikely in the mid-term on account of the established role of pipeline gas in both regions. Only major changes, such as the collapse of Russian gas exports, could make the LNG market adopt something approaching a bridging function in the interests of a global gas market.

A variety of strategic options are emerging in the downstream market on account of the increasingly significant role of LNG.

1. Procurement and retail issues. The geographical spread of volumes from different (compatible) supply sources with flexible access to a broad base of consumption markets can enhance the exploitation of arbitrage options. Having LNG in the procurement portfolio will give power producers and gas resellers a competitive edge in markets with high volatility in natural gas prices, by providing greater flexibility in handling peaks of gas demand (gas/power synergies). LNG is adopting the function of optimizing the gas procurement portfolio and reducing purchasing costs, with an additional diversification option. Even if projected growth is realized, LNG trading will remain a comparatively small market with limited liquidity. LNG trading activities will only pay out initially if downstream and upstream positions are held. Yet appropriate skills are needed for making the most of this kind of flexibility, especially in the area of risk portfolio management. As deregulation spreads, this will also boost LNG's importance in the retail sector. A detailed understanding of pre-suppliers' price curves and developing flexible procurement strategies will become more and more important.

2. Positioning in the LNG value chain. Players in the LNG market use a wide range of business models to extract value from LNG growth with different levels of integration and globalization. In a simplified matrix, we find four clusters of business models in the LNG market.

The first group can be described as integrated global players like Shell and the ENI group. Their business model covers the full value chain of the upstream and downstream markets. Their future direction will be to expand gas and power trading business activities,