Wednesday 20 October 2004

Market Deregulation on Continent No Guarantee for Cheaper UK Gas

Oil price likely to remain key driver behind gas prices

Deregulation of continental energy markets will not guarantee cheaper gas in the UK, claims ILEX, a leading independent energy consultancy, in a report published today (20 October 2004).  Despite efforts to liberalise markets in Europe, gas prices are likely to remain linked to oil and, in the UK, this could mean wholesale prices persisting above 30 p/therm unless the price of oil falls substantially.

The ILEX report Gas Prices in the UK was commissioned in July by the UK Offshore Operators Association (UKOOA), the trade body representing 30 UK oil and gas producers.  It reviews the recent price increases in the UK market and assesses where gas prices might move over the next few years taking account of a tightening of the UK gas supply/demand balance and the impact of the UK gradually becoming a net gas importer. 

The reports conclusions challenge the assumption that a more liberalised European gas market will lead to a full decoupling of the historic link between oil and gas prices, the principal driver behind the recent rises in wholesale gas prices in the UK.  ILEX points to the highly competitive US energy market, where a link between gas and oil prices has re-emerged since 1998. 

According to ILEX, UK gas prices to 2010 will continue to track the oil price and, assuming a price per barrel of over $30, are likely to remain on average above 30p/therm, subject to seasonal variation.

As UK gas production declines, ILEX forecasts the overall supply/demand balance tightening until around 2007, when new gas import infrastructure comes on-line.  Until then, there will continue to be significant risk in the traded gas market with prices remaining vulnerable to colder than average winters, any unexpected but sustained interruptions in supply from major offshore fields and/or delays in the new import routes. 

However, given the Interconnectors ability to export, prices are unlikely to collapse when new import routes start bringing in abundant supplies.

ILEX has found no evidence of market abuse, noting that the UK has a highly liquid market with gas being traded around 14 times before it is delivered, making price manipulation difficult to achieve.  Although market liquidity is not overall seen as a problem, the lack of truly speculative traders willing to go short in the market is of concern, as this appears to be contributing to the upward pressure on prices, with no counter-balancing downward pressure. 

Indeed, ILEX claims that market sentiment reflecting traders' fears of being caught short this winter may account for the difference between its forecast of around 45 p/therm and the forward curve of over 50 p/therm. 

Mike Tholen, UKOOAs Economic and Commercial Director, said: "The UK has the most liberal, deregulated gas market in Europe in which gas prices are fully exposed to economic forces.  Market liberalisation has attracted substantial new investment to ensure the UKs long-term security of supply.  After a sustained period of low prices in the 1990s, gas prices have been driven upwards on the back of rising oil price and market sentiment.  While gas prices should benefit from increased liberalisation in the European market, we endorse the reports findings which show that oil price is likely to continue to influence longer-term pricing.  It should be noted that, after removing the effects of general inflation, gas prices today are no higher than they were in 1990 and lower than they were in the mid 1980s."

Notes to Editors

1. The ILEX Report Gas Prices in the UK can be downloaded from the UKOOA website - Click here
2. Further information about UK gas production can be found at www.oilandgas.org.uk/issues/gas
3. The UK Offshore Operators Association (UKOOA) is the representative organisation for oil and gas companies licensed by the UK government to explore for and produce hydrocarbons offshore around the British Isles.  It currently has 30 members.

For more information, please call 020 7802 2400.