LNG Market Trends and Their Implications
Structures, drivers and developments of major Asian importers
Released 20 June 2019. Updated 20 June 2019.
The market structure and trends for the Asian liquefied natural gas (LNG) market have evolved dramatically since this fuel was introduced in the late 1960s. While traditional markets such as Japan or Korea have held their position as the largest consumers in the region, their domestic markets have changed under the influence of liberalisation policies, which have led to different stages of market opening. In parallel, the emergence of fast-growing LNG importers such as the People's Republic of China ("China") has led to substantial market growth, which has coincided with more diversification on the supply side, thus resulting in shorter and more flexible LNG contracts. Such an evolution in the contractual structure has had implications for price formation towards more diversity in indexation and more cross-influences between regional markets.
LNG market continues to grow in response to strong Asian demand
Over one hundred billion cubic metres of new LNG supply capacity is to be commissioned between 2018 and 2023, with the bulk of these additions coming from Australia and the United States. So far, this wave of new liquefaction capacity has been absorbed without any signs of looming oversupply, mostly by Asian importers. Both mature and fast-growing emerging markets strongly have contributed to this growth.
While China is expected to be the main driver of natural gas demand growth for the near future on the back of continuous energy consumption growth and strong policy support to curb air pollution, more mature Asian markets are likely to follow different paths. LNG imports are expected to gradually decrease in Japan in the longer term as further nuclear capacity restarts, while in Korea natural gas demand benefits from changes in energy policy orientations and the implementation of nuclear phase-out and the curtailment of new and existing coal-fired power generation plants. Other developing Asian economies expect to have strong, continuous population growth, which supports further electrification in this region. Additional power demand will create opportunities for natural gas growth in the region, although the sensitivity to policies and price levels remain uncertain.
LNG trade is going through an expanding transition from local, bilateral trading flows to regional (and, increasingly, global) markets. While overall LNG consumption is expected to be further concentrated in the Asia-Pacific region, the trend towards diversification of consuming countries will continue. Further diversification also happens on the supply side – apart from the United States and Australia, both traditional and new suppliers develop new liquefaction projects to capture this additional demand originating from the Asian region. While the Russian Federation is steadily adding new liquefaction trains, Qatar prepares to expand its export capacity in order to retain its leading position. Recent final investment decisions in Canada and offshore Mauritania and Senegal further reinforce the future diversity of suppliers.
Major Asian markets follow different paths towards liberalisation
Unlocking future growth in natural gas consumption implies greater domestic competition, triggered by further market opening in major Asian consuming countries. Natural gas is a major source of energy for several major Asian importers – up to one-quarter in Japan and more than 15% in Korea, for example. The history of natural gas in this region shows a close linkage to the history of LNG import activities.
Market policies have evolved over the past fifty years in conjunction with importing activities. Japan started its liberalisation in 1995 by carefully introducing structured steps that led to a gradual opening of the market and attracting new entrants for the past twenty years. The current Japanese market – fully liberalised since 2017 – comprises over 200 players operating on different market segments. However, the lack of supply alternatives to LNG imports and limited domestic pipeline interconnections still impose physical limitations to new entrants that may be alleviated once third party access to infrastructures becomes fully operational.
Korea is facing a similar supply situation but it has a smaller share of natural gas in the country's energy mix and is at an earlier stage of market opening. Incumbent KOGAS imports almost 90% of the LNG demand in the wholesale sector; it is the sole wholesale supplier providing gas to large-scale consumers and city gas companies; and it relies on long-term contracts and spare infrastructure capacity to manage seasonal demand patterns. With the government's ambition to phase out coal and nuclear from the country's electricity supply mix, the consumption pattern is expected to flatten out by 2024, and it is likely that LNG import players will become gradually more diversified. As a result of opening to direct importers in 2005, eight companies from the power, steel, and petrochemicals sectors developed additional receiving capacity to serve their own consumption needs, but it accounts for only about 10% of wholesale volumes. In 2016, the previous government set a target of 2025 for private companies to be able to import LNG and resell within the country; this target has neither been confirmed nor abandoned by the current government.
China has a different supply structure. Even with a growing share of LNG (in 2017, China became the second largest LNG importer), China's supply structure remains a complement to domestic production and pipeline imports, which, together, accounted for 80% of supply in 2017. The objectives of the 13th Five Year Plan (2016-20) to adjust the country's energy mix have created a surge in natural gas demand, resulting in accelerated infrastructure development to accommodate additional supply – both domestic and imported. This change in market structure is expected to encourage new entrants in the different links of the natural gas value chain, from exploration and production to the retail market. With the introduction of successive pricing regime changes and the development of natural gas hubs, market reform is progressing and paving the way for further reforms to ensure more competition on the domestic market.
Pricing transitions towards a more global LNG trade framework
Contrary to mature markets in North America and Europe – where diversified sources of supply and strong domestic production provided a solid base for market-based pricing – Asian natural gas development has traditionally relied on LNG as its main source of supply. Traditional price formulae still prevail for a majority of LNG imports in Asia, with over 70% of natural gas sales subject to oil price indexation as of 2017.
The demand shock caused by the aftermath of the 2011 Great East Japan Earthquake led to the emergence of an Asian LNG spot market. Acting first as an emergency, premium-priced source of additional supply, it evolved progressively to a balancing market as LNG supply expanded with the number of new buyers. Enabled by the emergence of market-priced LNG from North American export projects, the reshaping of LNG trade towards more flexible and global markets is likely to have a spillover effect on Asian natural gas pricing with the introduction of hybrid pricing formulae (including hub pricing alongside oil indexation) and the development of local trading indices. Such developments help to establish a more competitive environment and encourage enhanced market liquidity in the region for both producers and importers. However, the full transition to regional market pricing, supported by the development of trading hubs, will be possible only with the introduction of more competition along the entire value chain.