Natural Gas: to the Moon and back

Natural Gas: to the Moon and back

The energy crisis is in no hurry to leave Europe. The first wave of astronomical increases in gas prices this autumn has been followed by a second one, with even higher prices, in Europe exceeding $1500 yesterday.

As is often the case, several factors combined in an unfortunate coincidence led to the crisis. It seems that China and Europe were over-zealous at the start of the year in encouraging economic recovery and moving away from coal consumption.

The first substitute for coal was gas. But Russia, which had not yet got a certification for North Stream 2, diverted gas to China. The situation was exacerbated by the failure of wind generation, on top of a hot summer and a rather chilly start to winter, requiring more energy.

All this is multiplied by a policy that Gazprom is failing to deliver via Nord Stream-2 and that the Russian giant prefers to use other ways to supply gas to Europe as little as possible. So the policies of all concerned have only exacerbated the price hike. Now, the officials’ mood and rhetoric do not promise a rapid improvement soon.

However, it is worth realising that it is also in the political will to drastically alleviate the pressure on gas prices. It is unlikely that Europe will survive the whole of 2022 in such a situation, but there could be a rather nasty rise in electricity prices in the next couple of months, pushing inflation further upwards.

Natural Gas: to the Moon and back - 1

The latest round of gas price rises came when Germany announced that it would not rush to certify NS2. Almost immediately after that, we saw Gazprom continue to reroute gas to China, exceeding the agreed contractual norms as much as possible, while supplies to Europe dropped to a 6-year low.

Europe’s logical response to the current energy crisis with its supply problems is promoting alternative sources of energy. High gas and coal prices are a natural catalyst for the switch to alternatives, and politicians can help by announcing stimulus to speed things up even further.

It is also worth looking at companies associated with LNG, which is more flexible than pipeline gas in changing supply in response to demand fluctuations.

Gazprom itself rarely benefits from sharp price spikes. It is more likely to benefit from long-term trends, supply growth, and Brent Crude price.

The roller-coaster ride we see in European gas prices is not a good investment idea as it creates a lot of uncertainty and adds volatility. Looking ahead to the year, I think the power generation and alternative energy suppliers sectors (beyond coal, oil and gas) are attractive. Shares in companies in the traditional energy sector have risen impressively since last November, and this rally, in our view, is coming to an end.

The trend for ESG - took off too fast at the start of 2021 and will run out of steam somewhat over the coming months. It’s not a hundred-metre race but a multi-year marathon, so a smooth transition would be logical. As we see at the end of the year, disruptive moves cause severe supply chain disruption and are costly to the world, including a new surge of interest in coal earlier in November.

As long as it looks like a speculative hype idea, we expect companies to outperform this trend when the initial noise subsides and the distortions are balanced. ESG now resembles Big Tech a few years ago: a lot of hype and periodic “deflating”, but there is more potential here than in other trends in the long run.

Alex Kuptsikevich

Alex Kuptsikevich

Financial market professional with 16-years' experience and Senior financial analyst at FxPro. Author of daily reviews on the impact of economic events with comments regularly featured in top international and Russian media. Covers fundamental analysis, global markets, foreign exchange market, gold, oil, cryptocurrencies.

Alex Kuptsikevich is a regular contributor to both digital and print media including CNBC, Forbes, Reuters, MarketWatch, BBC and Coindesk.