Market commentary

August 2022

Russia’s war against Ukraine continues to determine energy price developments. However, it has become clear to market participants that the problems with supplies from Russia will last much longer than thought in March. At the same time, the global economy is a source of concern, and thus we currently believe that prices will stop rising. Clearly, in the event of a further escalation, i.e., turning off the gas tap, we would snap like a fish out of water in many parts of Europe. And further increase the willingness to pay.

At the moment, however, the long-term pessimism prevails and thus the slightly falling price expectation for gas and power.

Since I started working in energy trading in 1998, a situation like the one we are now facing after the outbreak of the war was unimaginable. There is an energy shortage in Europe and the regulators of the EU member countries are now wrestling with whether energy control measures are appropriate. In our opinion: Yes, because on the one hand, industry has to limit its production due to high prices, and on the other hand, households in many EU countries now need and receive support to pay for the extremely high prices. Both signals point to a market failure, even if the exchanges still quote prices for all products.

The gas price will remain dominant in the coming months. Coal-fired power plants are running at full capacity in Europe, and Germany’s nuclear phase-out is creating additional shortages on the power market. Coal prices have risen to a new record level. Q4 2022 was trading as high as USD 240/t at the end of May, is now just below USD 200/t. The drop in CO2 prices from above 90 EUR/t in February to below 60 EUR/t in early March and now back to above 80 EUR/t is also leading to merit order gas tipping the scales in power production. Coal prices can fall more easily than gas prices in Europe, in our view. 140 USD/t is quite possible if recession fears persist.

Where do we go from here? We stand by our opinion: ask Putin or Biden or the astrologer Gerda Rogers. The high prices are a strong long-term incentive for additional supply and a shift to renewables. The war with Russia is expected to last even longer with each passing day, and so forward market prices for Year 24 and beyond are rising as well. Economically, this is a real disaster for the European economies, gaining momentum as inflation rises.

We don’t know what surprising turn of events is yet to come on the world political stage: Europe’s only option is to hope for warm weather and a better supply of renewables so that we don’t have to produce power from gas and coal-fired power plants. However, this is becoming increasingly difficult as conventional power plants in Europe tend to be shut down and the transition to renewables is too slow.

The IEA’s wish to reduce consumption in Europe by 1/3 in one year does not help either, because it is unrealistic. The governments do not want to expect the citizens to save energy. And the hectic laws for the promotion of the renewable energy do not help unfortunately also, since the craftsmen and raw materials are missing or became substantially more expensive.

Nevertheless, gas and power are expected to become cheaper again in the distant future, simply because such fantastically high prices affect both supply and demand. However, the cheaper price will only come within a year if the war takes an extreme turn and there is an immediate reconciliation with Russia. What would have to happen for that to happen, we cannot imagine either. Therefore, European markets remain a pawn between sanctions and the restrictions imposed by the war. And although Ukraine (physically) and EU Europe (financially) are footing the bill for this conflict, they have little say in the matter. The burden on the Ukrainian people seems inhumane and it is exasperating that Europe does not have a good hand in fighting the injustice Putin has caused.

We believe (note – not all of us) that gas flows from Russia will be further restricted in any case. Either Putin will turn off the tap or the Europeans will manage to make good on the “threat” of stopping imports and the EU will turn off the tap itself. In my view, it is only a question of whether the EU is faster at LNG terminal construction or Putin creates LNG exports to China or India or simply produces more aluminum (take that symbolically, please).

In our view, the situation remains very unfavorable for everyone. Large consumers, end users and even energy producers have unprecedented and major adjustment difficulties with the high prices.

We wish you personally and in your work for your companies all the best in this exceptional situation and will be happy to support you if you want to and if we can.

Your Felix Diwok, CEO, for the team of Inercomp