Putin’s energy gambit

The EU is considering energy sanctions on Russia amid reports of atrocities in its ongoing war in Ukraine but many countries fear the consequences of such measures on the economies of the 27-nation bloc. These potential measures comeo against the backdrop of Russian president Vladimir Putin’s posturing. Is Moscow’s short-term to aim to starve Europe of energy? And could oil and gas prices spike further in the weeks and months ahead?

Host: Richard Sverrisson, Editor-in-Chief, Montel
 Guests: Bjarne Schieldrop, Chief Analyst, Commodities, SEB and Nadia Martin Wiggen, Partner and Chief Oil Analyst, Pareto Securities. 

Transcript

Richard Sverrisson, Editor-in-Chief, Montel: 0:07

Hello listeners and welcome to the Montel Weekly podcast, bring Energy Matters in an informal setting. This week we continue to look at the energy market implications of the war in Ukraine, as the EU hints at further sanctions, but remains hesitant to fully cut energy ties with Russia. We look at the risks of a cut to supply and what it could mean for oil and gas prices in the coming months. Joining me, Richard Sverrisson, Bjarne Schieldrop of SEB and Nadia Martin Wiggen Pareto Securities, a warm welcome to you both.

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 0:40

Thank you very much for having me.

Richard Sverrisson, Editor-in-Chief, Montel: 0:43

If I could start with you, Bjarne. So does Vladimir Putin quite literally have us over a barrel at the moment in Europe?

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 0:51

Russia is the energy elephant in the world in terms of energy exports. We all know that Saudi Arabia is big in terms of oil exports and and in general. Saudi Arabia and Russia are very closely aligned in terms of the magnitudes of net exports of oil and oil products to the world. But then, Russia, in addition, exports something like 4 million barrels per day of oil equivalents in natural gas and also quite a bit of coal, so altogether Russia is most definitely the elephant in, in, in the global energy space.

Richard Sverrisson, Editor-in-Chief, Montel: 1:24

Absolutely. What's your view here, Nadia?

Nadia Martin Wiggen, Partner and Chief Oil Analyst, Pareto Securities: 1:26

I agree that Russia is extremely important, but I think and when we started to think about potential conflict, which is of course turned into very ugly war I think the markets had to dismiss the idea of. Including Russian energy exports. But I think as this war has escalated, it's become a reality that we actually, we need to consider. And this is when, when we look at what are the substitution effects and possibility if we start with coal, which of course Europe has already agreed. To ban, we see that there can be replacements for European Russian coal, most specifically from Australia, but also for Russia. Those exports can continue to flow most mostly to India and China. When we look on the oil side, we see the same situation, and although we have Russian supply. Around 1 million barrels per day. In the second quarter, we don't have it at the 3 million barrels per day number that the IA has, for example, because we expect Turkey, India, China, to especially China, to increase exports of Russian cr. The problem is, as Brna points out, is gas. And this is though, when we look at the effectiveness of sanctions. Gas cannot be replaced in terms of an importer when we take out Europe. So it's actually the only way that Europe can really hit Russia hard and make a difference because, China and India and other countries cannot suddenly, or Asia cannot suddenly take that guess. So I think this is the reality that we're starting to struggle with.

Richard Sverrisson, Editor-in-Chief, Montel: 3:17

I think let's stick with gas before we move on to oil. So Bjarne, do you think, a fully, full sanctions on Russian imports of eu is that likely? We've seen very high ranking, people in German financial figures saying, no way we can't do it or ruin the German and the European economy.

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 3:33

Why isn't oil or why is oil actually now still flowing to the market? It's flowing under the radar. It's buyers directly to sellers or sellers directly to buyers. It's because it's not explicitly sanctioned. And if you look at oil and liquids, exports, we're talking 7.7 to 8 million barrels per day. And if. You actually sanction it, then it wouldn't flow to the market. Maybe we could reduce export from Russian liquids maybe by 20%. The effect of that would be less volume out to, out into the market from Russia. But they would sell at a much higher price. And this is the headache of the US and the eu. Of course it's easy for them to sanction Russia, but the only who would suffer is would basically be non Russian energy consumers because prices would go up and more than compensate for lost volumes of exports. And this is the problem. And also in terms of coal, you have a little bit of the same problem in the moment. You, you sanction call exports. And from Russia, it will lead to lower exports of coal. It's not so that the coal that the EU is not taking easily flows to China and India because it would be under explicit sanctions. So it would reduce the supply of coal to the global market in addition to, of course, logistical issues. So the moment you have explicit sanctions on. Either natural gas, oil, or coal, you're going to drive up the prices and compensate Russia for lost volume a achieving nothing. And that is the headache of EU and the US.

Richard Sverrisson, Editor-in-Chief, Montel: 5:05

So you, do you think it's unlikely that the that the EU will impose sanctions on oil and gas in Russia?

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 5:11

You have created a bit of of opportunity to act right now because the US is releasing 1 million barrels per day from strategic reserve for six months. And we've seen that in international nng agency member countries will also release 60 million barrels of oil altogether 240 million barrels. And of course, given that you can actually. Implement some explicit sanctions towards Russian oil, ex oil and product exports in a comparable amount. Basically leaving the market comparably unchanged in terms of supply, but lower volumes from Russia so that they don't get the compensation in price. So that is the opportunity that but I don't know if this is really the motivation by the us it could also just. Be to, to sugar the pill for US consumers in terms of lower gasoline prices in the run up to the midterm election.

Richard Sverrisson, Editor-in-Chief, Montel: 6:04

Absolutely. Nadia, before we started recording, we were talking about, what the motivation from Russia and what do you think Putin's long-term strategy is? Do you think? After, the summer last year, it was a deliberate move to start cutting off the gas supply and to drive up prices and to see how, could see how Russian gas and oil

Nadia Martin Wiggen, Partner and Chief Oil Analyst, Pareto Securities: 6:31

Putin speech. He said that his plan was to expand Russia and, I believe, he's waited 20 years for the perfect opportunity and started to do this. And we saw the effects already in September. And this is where, when we go back to European independent and who, especially on the gas side, is walking these discussions or this vote to actually sanction Russian guests. It's primarily three countries. It's Germany, Italy, and Hungary. And this is where Germany we currently have German gas storage at only 27% full by November 1st. We've, we have EU legislation. Should come online, in, in the summer that by November 1st that storage needs to be 80% full. And Germany is quite dependent on Vladimir Putin right now. So that is a very tricky situation for them. When we look at Italy similarly. On on Russia, but they do have actually more l and g capacity, so maybe they wouldn't block it as they said today. And then we have Hungary that has just renewed the election and has the most pro Putin guy or con in power, right? These are the three countries that are standing in the way. Having said that, Hungary has been very much protected in the eu. By Poland historically when they misbehave or block things. And right now Poland is extremely scared of Russia and Eastern Europe in general. Ex Hungary is scared of Russia. So this is where I think that political pressure. Actually becomes quite a big bit bigger on the gas side. And this is where we see Belgium for example. They're coming forward now to try to push the population that if you wanna help Ukraine, you need to use less electricity, you need to use less gas. This is the way we actually have things move forward. And I, when at general, commodities prices and. Very bullish because we see the supply demand problem. But the question is then do we get so high that it's policy or price that starts to take off some of that demand? And this is where I think when we look at these sanctions and the security of Europe, it might be that policy moves first by stating these sanctions to. Of that demand instead of seeing the price effect that we're probably gonna see anyway during the summer season because of diesel tightness in Europe and into the winter, or preparing for the winter because gas storage is not yet built up.

Richard Sverrisson, Editor-in-Chief, Montel: 9:24

You mentioned you. EU to fully sanction these commodities from Russia. But what is the likelihood of Putin actually just turning the taps off. Yeah, he's come with global threat. On, on conversely on, on the Russian side.

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 9:38

I think it's just very quickly look at the statistics, in terms of crude and products. Hydrocarbon liquids. Russia supplied 36% of what the EU consumed in 2019 of natural gas. They supplied 37% and of coal, they supplied 18% of European coal altogether. You get up to a 33% of all fossil fuel consumed in EU in 2019 was from Russia. It is just absolutely mind blowing big. It has been, Europe has been criticizing criticized by the US on this before. I think in terms of the target of 80% by 1st of November the market is acting like, all then that is what we're going for, as if. The European market is in control of this. This is fully in the control of Russia, whether Europe is going to hit 80% or not. And also we must remember that 80% is more or less exactly where natural gas inventories were at the end, or in November 2021. It, it's just a marginally higher, and I think I'm, it's absolutely confident that Putin will game this. So that will end up with a very tight situation on natural gas inventories towards the end of the year. The same kind of craziness in terms of fear over cold winter for especially Q1, which is the most radically variations of warm and windy versus cold and no wind. That those risks facing the European energy market by Q1 right now it's a long time to winter, that is what probably where we're going to end up. End up.

Nadia Martin Wiggen, Partner and Chief Oil Analyst, Pareto Securities: 11:17

But I think that this is why precisely the European politicians wanna do a preemptive strike and force the policy because we're not, except for a couple one day last week, we haven't utilized maximum LG in port levels in Western Europe. And when we calculate with the help of rice and energy, all the LNG potential, regasification potential, and domestic supply increases within Europe. We find that okay, we come up with a 15%. And that is of course, an enormous demand hit. But right now we're not even trying to get there. And it's when we look and on a regional level, in, in Western Europe, actually, if we do everything we can, we only fall 3% short of what we need in terms of natural gas. If we take out Russia fully. However, because LA versus last year and Russia supplied 30% of Europe's, but when we look at. Eastern Europe. That's where this huge shortfall is, and that comes out at 54%. And in that number I include Ukraine, which isn't technically part of the eu, but this is where I find it very interesting that which is a huge loser in this. For this to happen because they're so scared. They're of course hoping that Germany will then reverse the pipeline and send some gas to them like, like they're right now that Spain will be reversing into France, that Italy will be reversing because they need to spread this whole, but this is when we look at that, I think it's actually becoming much more realistic and it could actually happen for some days in the summer as we've had more relaxed prices. So it's better for it happen in the summer than in the winter when people really can't warm their homes.

Richard Sverrisson, Editor-in-Chief, Montel: 13:14

Absolutely. We were in, in some respects, saved by a relatively mild winter this year, but nadi, what are the alternatives that Western Europe has then you mentioned some of, we, we use all the alternatives and or all the supplies that at our disposal. What are they?

Nadia Martin Wiggen, Partner and Chief Oil Analyst, Pareto Securities: 13:28

It, we can of course look at different commodities. Because already the US and in terms of import, the problem is the import capacity on gas. That's the number one problem. But when we look at other sources of power we have the nuclear problem that has been of course, tightened because Germany has continued to close down nuclear reactors. Our view is that, they will postpone the three last reactors left. Can potentially even bring back some of the ones closed last year, but it's expensive and Germany does everything according to price. And so they're less likely to do that. But then there's of course the increased coal capacity. But this is where they have agreed to actually cut Russia out on the supply. But there can be additional supply coming from the us. Absolutely. So that can make things less problematic. And then we had a very unlucky year in renewables. Shockingly, the only one that looks tough for this year so far is hydro, because we've had terrible winter snow seasons in Eastern Norway and in the Alps, so that makes water more tight. But on coal sorry, on wind and solar, we should have that help with the supply situation.

Richard Sverrisson, Editor-in-Chief, Montel: 14:47

Absolutely. Bjarne, if I can turn to your forecast or your outlook for the weeks and months ahead, if we can start by, by looking at the oil markets. You mentioned, the release of some strategic reserve from the US and from the IA mentioning other numbers. What are the key drivers? In the weeks ahead. And what will it do for prices?

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 15:09

Of course, the announcement of these massive re releases, the QS is actually releasing one third of its total strategic reserves, right? So they had statistics out last week. The strategic reserves were at 568 million barrels and they're released. Seeing 180 million barrels, that's a massive release, unprecedented in history. And of course we've seen spot prices come off since then, naturally the front end of the curve. But the thing is that the US is going to buy it all back later. That's the plan, right? So what we've seen is that this has added demand on the longer dated contract. So overall, the average curve for the next six or six years, five years, 60 months forward strip hasn't really fallen all that much. Last week we saw that the front end contract fell like $14 per barrel while the average five year strip only fell like $0.75 per barrel because the longer rate prices rose while the front end tipped. So definitely, it has it, it has. Eased the front end concerns of ultra tight situation. But of course, also the contagion of omicron spreading out rapidly in China with the lockdown stair is also easing demand reducing demand and thereby making it more comfortable in the front end of the curve. What is this going to be? In the short term, Russia has the upper hand in terms of exports. They account for so much energy into the global market being it's basically if you sanction it, prices are going to rise significantly if you properly sanction it, like the US has done with Iran preventing oil from flowing. And definitely China wouldn't touch that oil from Russia to to to all extensive degree if it's sanctioned explicitly by the us. But, so in the short term, Russia definitely has to apprehend, right? And can control this and we can sanction it. They make more money on the price and less on the volume. But in the medium term, this is a catastrophe for Russia because the EU will move, decisively away from Russian energy exports in general, natural gas specifically, and all these pipelines going from Siberia and all the way to Western Europe. They will have close to zero value as Europe moves away from this in, in, in the coming five years. So now this is a tragedy for Russia. But in terms of what is happening also down the line is that. The sanctions and the withdrawal of oil, all the oil service companies. And the ban on exports of technology to Russia is going to hurt Russian oil production one year down the road, five year down the road, as well as natural gas. The outlook for Russian production is probably going to be much bleak than we had thought before this.

Richard Sverrisson, Editor-in-Chief, Montel: 17:53

Absolutely. Do you think and in terms of prices, are we heading towards $150 a barrel? In the months in this year?

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 17:59

We had a forecast for Q1 issued the day before the release the announcement from the US.$120 on average for Q2 22, 22. And of course things have become more comfortable due to the SPR releases and also more comfortable because of the lockdowns in China. So maybe we don't go all the way there, but. It's extremely tense situation. Geopolitics are extremely high, and we must remember that natural gas is trading close to $200 per barrel of oil, equivalent at extreme, at five times normal price levels. And it's really hurting European industry and consumers for both natural gas and power. So we are already at extreme levels for energy, though. Oil suddenly looks like, wow, that is cheap.

Richard Sverrisson, Editor-in-Chief, Montel: 18:47

Absolutely. You never thought we'd hear that at $120 a barrel, but or current price around 105. Nadia, what's your price view here in, for this quarter and maybe the rest of the year? Do you agree with Bjarne that you're around the hundred 20 mark or bit softer?

Nadia Martin Wiggen, Partner and Chief Oil Analyst, Pareto Securities: 19:00

We have similarly been at the. Mark for the second quarter, assuming Iran would come back, which they're not so far, so that would've put us more towards $35. But instead of Iran, we now have the PR release. So that makes it comfortable. But I just wanna add, and, the main thing is that this s is trying, which I believe, oPEC because of potential demand destruction, and maybe it's at barrel, we don't actually know. I'm not a huge believer in demand destruction until it happens. It could be a1 five a barrel, which is what we saw, inflation and adjusted. 2008. Maybe it's even higher because liquids are the markets are more liquid. But on the other hand, all commodities are. One thing, I don't think that the US and Europe would enforce a complete embargo on Russian oil. Now, what I think they may do though is that are increasingly likely to do is to ban Russian exports to the eu, in which case those exports will be replaced. However, we will continue to pay higher prices for oil. Already locked in a $35 discount on, all the oil. They've already agreed stake. And I think China is just holding out for cheaper prices. And I think that this is where, that's the problem with that step. Whereas with gas, really it cannot be replaced as an income stream for Russia. What Bar says about the medium turn, I completely agree with, and I would add to that, that even in the coal market. Experience technological losses, and this is where the IA believes that, Australian coal production is gonna continue coming down year on year, not just because of environmental reasons, but because of infrastructure advances due to come in the Russian coal space. A tricky, horrible situation for years to come, and it's not really priced in yet.

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 21:18

I completely agree. It's not properly priced in yet. And it is, it's a VI mean, getting back to Russia, being the energy elegant in the world. It's a massive structural change in geopolitics and economic forces versus Russia that's going to force it lower in many respects. As you say, also in on the coal side this is going to have a multi-year effect.

Nadia Martin Wiggen, Partner and Chief Oil Analyst, Pareto Securities: 21:41

Which then is when we look at kind of our price forecast for next year, assuming we avoid the extreme price scenario that causes significant demand this year, we see very strong prices for year barrel. We see that additional decline coming from Russia and this tightness problem hasn't really gone away, and we still see that lag in the US potential comeback. The last two months in December and January, US production has coming 200,000 barrels per day lower than we thought. So we now have to, we're starting from a lower base. So it's a very tricky situation to fix in the coming two years.

Richard Sverrisson, Editor-in-Chief, Montel: 22:23

Absolutely what you know, Nadi, you mentioned earlier. Policy measures. What tools to, to policy makers in Europe have at their disposal to, to combat these, this extreme situation that you're both mentioning that there's talk of rationing maybe, or, that Germany's put in in, in place some extreme measures to combat to combat this supply cut.

Nadia Martin Wiggen, Partner and Chief Oil Analyst, Pareto Securities: 22:43

Yeah. I think rationing is part of it. I think another part is that, right now Gas Pro owns quite a bit of the storage facilities in Europe. So when when Brna explains that this is up to Putin, where we're, that's just another element illustrating that point. So EU is trying to create legislation that gas won't be in control of these storage levels. That's not something that is fixed overnight. A bit like this, paying for gas in rubles versus euros and dollars, it's not fixed. So I believe that Europe will absolutely also have to build new storage facilities. But again, this. Yeah, and this is where, one place I think they're finally really gonna start sprinting on is at least on policy actions for renewables, because we see the capital flying into that. We have clients that are just dying to get in there. But the problem. And all of this, and I think that Europe can definitely help in that situation in terms of the substitution for the coming two years, so that, it's not in the worst case scenario for gas.

Richard Sverrisson, Editor-in-Chief, Montel: 23:55

What's your view bian it, the energy transition. Will that, accelerate here? As a result of what we see now?

Bjarne Schieldrop, Chief Analyst, Commodities, SEB: 24:00

Most definitely. It's going to accelerate big time, I think. But for different reasons. Of course, now it's like energy is almost part of the defense budget. It's no longer about the environment. It. About security supply, it's about being dependent on Russian oil. We don't want to, we don't want to be dependent on Russian energy. So the whole energy marriage between Russia and Western Europe has come to an end. It, it takes time to totally break up and and get the divorce through because we need to build build the alternative. And of course, renewable energy. Is to a large degree, one of the important weapons to actually counter it all. And, for a long time it has been the environment. It has been the CO2 price as the tool to drive forward the energy transition. Now suddenly the government is going to say here's the money. Go and build it. We don't care if you burn, you can burn as much. Coal. You want car tires, garbage, whatever you want to burn emit, CO2, no problem. Now it's about security supply and we'll take it back to the environment later, it's going to accelerate the building. And as Nadia say, the approval of all the different permits to, to get it done. So I think massive exploration and also, we have an, a very interesting setup globally also for renewable energy because prices have been collapsing. Yes, it's a bit more costly right now due to cost inflation of all commodities but still, we come down to very low levels. And at the same time, you certainly get an explosion in fossil fuel prices, making renewable even more profitable in relative terms. And then on top of that, you get massive support from governments trying to move away from Fossil, but for the reason of high prices and security supply, not necessarily environment, but definitely, environment issues are going to get back in and by us in behind in not too long anyhow.

Richard Sverrisson, Editor-in-Chief, Montel: 25:49

I think that's a good place to end this discussion on a bright spot for the, the positive note for the optimism for the green transition. Bjarne, thank you very much. Nadia, thank you very much for joining the on our weekly podcast. So listeners, you can now follow the podcast on our own Twitter account. Aply named the Montel Weekly podcast. Please direct message. Any suggestions, questions, or let us know if you think you have a good idea for a guest on the show, you can also send us an email to podcast@montelnews.com. Lastly, remember to keep up to date with all that's happening in energy markets on Montel News. You can subscribe on Apple Podcasts and Spotify or wherever you get your podcasts from. Thank you and goodbye.