Commodity bull run

This week’s pod discusses soaring energy prices, asking what is behind the bull run, how long it could last and what are the implications for energy intensive industries? As prices surge there is an increased risk of political intervention and perhaps even a call for Germany to return to nuclear power.

Guest: 

• Olav Vilnes, Editor Nordics, Montel,
• Nathan Witkop, Correspondent Germany, Montel

Transcript

0:01

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Richard Sverrisson, Editor-in-Chief Europe, Montel: 0:30

Hello listeners and welcome to the Montel Weekly podcast, bring You Energy Matters in an informal setting. In today's pod, we delve into the current high price levels in energy markets across the globe. Although our focus will be mostly only U power and gas prices, what's behind the bull run? How long could it last and what are the implications for companies and policymakers Joining me, Richard Sverrisson are my colleagues, Olav Vilnes Editor Nordics and Nathan Witkop correspondent Germany. A warm welcome to you, Oliver. Nathan. I'd like to turn to you first Olav. We're both old enough to remember and we're working in at Montel in during previous bull runs or commodity Super cycles. Are we back to 2007, 2008, in your view?

Olav Vilnes, Editor Nordics, Montel: 1:15

Yeah, that's a very good question. It seems a bit like that. We have been used to this in periods. You have, everything looks very bullish and at the moment, definitely, you've seen sharp rises across the curve really on coal, on gas, on carbon and power, but of course, previous experience also shows that at one time it will burst and you will start correcting back again. So I think there could quite easily be a sharp adjustment down as well this autumn if but no one knows when.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 1:41

In the Nordic region in particular, last year was a year of extremely low prices. Record low prices. This is completely the reverse. What's going on, Ola? What are you hearing in the market?

Olav Vilnes, Editor Nordics, Montel: 1:52

Yeah, it's, I think everyone is quite of yeah they're very surprised. But it's sharp turnaround. When we spoke to people last autumn, they said it would be cheap for at least a couple of years. A lot of new renewables coming online. A lot of hydropower in storage. So people did actually were quite, from a hydropower perspective, they were quite depressed. They thought, okay, prices will stay low now for a long time, and then we just go some months, and then it's. Probably they're heading for the best year ever this year in the Nordic region, some of the hydro power producers. So it's quite remarkable

Richard Sverrisson, Editor-in-Chief Europe, Montel: 2:20

in terms of the profits that we, they've really seen some of the companies posting very good half year financial results.

Olav Vilnes, Editor Nordics, Montel: 2:25

Yeah. And I think particularly those that are very much focusing on hydropower, like start craft, for example we saw start craft's first six months result, they, it more than traveled the, from the flexible production unit in that period compared to the year previous year. Some of the companies are probably a little bit more cautious, hedging higher volumes. You saw the likes of Vattenfall, fought to municipal last year. Didn't see the same fold in profits when prices fell because they have a relatively high hedging degree. So I think particularly those that hedge a level, quite low hedging levels, focusing very much on hydropower they are really the winner this year

Richard Sverrisson, Editor-in-Chief Europe, Montel: 2:59

because if you are confronted with two price at two euros, a megawatt hour or to five and you hedge. At 10 or 20, you'll be kicking yourself. This year

Olav Vilnes, Editor Nordics, Montel: 3:09

you probably will, but I think last year it's quite a funny story. That one, that's one of these utilities in western Norway. It's called SKL. I think they, they have a policy of not really hedging any production and they produce several TE towers a year. And last year everyone was criticizing them, why are you not hedging? You are, you get this kind of what are they doing? But this year, of course, like you also have the benefit of that strategy of being open in the market. So yeah.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 3:30

So they're the ones smiling now. Yeah. Nathan, if I could turn to you on the continent, what's happening here in terms, for German utilities or in the gas markets?

Nathan Witkop, Correspondent Germany, Montel: 3:38

I think just to back up a bit and join in on what you are both discussing there. I think some of the surge we've seen in prices this year it's linked to separate but coincidental pressures on carbon, gas and coal as well as lower renewable energy generation, especially in Germany with disappointing wind levels. As well as a, an international rebound from COVID. So there are exceptional circumstances behind this rally. I think a lot of people were anticipating a rally this year around the world, but the extent of the rally has really caught people by surprise. And the other thing I would say is that, compared to 2008, I think there are some things that are a bit different now. The extent of the climate crisis being the most screamingly obvious one, and the pressure there to address that through a much tougher carbon trading scheme in Europe. That's largely what's driving the higher carbon prices. It's not the only thing of course. But at the same time, yeah I think with gas specifically, yes, we have. Some, I think, short term pressures that are really pushing gas prices up now. And when you look at the shape of gas prices into the future, you can see that there is a sharp drop off expected by next summer. And that sort of tells you that there is an expectation that a lot of the supply constraints that we've had this year should ease from next year. But having said that, we still have to get through this critical phase of. Of winter, and that's really what everyone's concerned about is that we haven't been able to rebuild our stocks this year, as hoped say, in March. And pipeline flows have been disappointing. L and g has fled to Asia and Latin America but Asia in particular, which experienced a huge spike in prices. Last winter in January, and there would be those wary there of repeating that situation. So we've got this short term, very tight situation in the gas market, fear of what's gonna come in winter. That working together with a very high carbon price to effectively with. Push up a lot more coal generation, especially in countries like Germany and that then leading to a rebound in demand for coal, even as coal suppliers around the world had just cut back last year because of the blow of the coronavirus. The thing with the coal rebound is I think a lot of people that I've spoken to this year have been saying from the start of the year last year we had some two thirds of seaborne coal suppliers loss making basically at the prices that the market crashed to around $50 a ton. You could say globally. Now they've shot up to. I think if we take the Newcastle prices are referenced there, like above $170 a ton, they've pretty much tripled off that low base yet supply hasn't come back nearly as much. And I think that's consistently surprised people, coal analysts I've spoken to throughout the year, and the reason many keep coming back to is ultimately climate the concern, the divestment movement has been actually quite effective at driving, especially financial houses banks, away from financing new coal projects that's pushed up. Effectively the cost for miners when they look for partners to help them expand supply. And that's also, reflected back the risk that are these mines really gonna be profitable in the long run? Are they gonna be able to pay themselves off if we really. Do address climate change if we do really try to meet the Paris commitment of limit limiting climate change to a 1.5, to just two sea rise this century. And that means, yeah, coal plants just, they're reluctant to reopen supply that was closed. And so yeah, we have these sudden rebound in demand. Effectively it's like a carbon tax on the rest of the world that doesn't necessarily price carbon.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 7:46

So while carbon prices are very high you're still seeing this year an increase in coal fired generation. So actually emissions in some countries are likely to see an increase in 2021.

Nathan Witkop, Correspondent Germany, Montel: 7:56

Yeah, very much it's important to point out two things. We see a surge in coal fired generation in Germany, for example. I think coal fired generation, if you include hard coal and ignite together, is up 38% in the first half. Germany's coal importers expect to see a 12% rise this year, but you have to bear this in mind. It's off a low base. Last year we had a huge shock with the coronavirus, and so even these levels will not take us back to where we were in the first half of 2019. And you also have to remember that in Germany we've got a call phase out schedule. It was heavily criticized last year for being overly expensive. People pointed at, oh, look at the carbon prices. It's, look at the cheap gas. It's going to be made redundant anyway. What a waste. But actually this year, it's looking like a very good insurance policy because we have coal rebounding despite very high record carbon prices, around 60 a ton. Recall that, only a few years ago they were in the single digits. And it was hoped that at 30 a ton, that would be enough to drive out vast amounts of coal. We've got double that now. And in fact, ignite Generation, the most emissions intensive source of coal has shot up even more than hard coal because it is still competitive and it's, it will remain competitive as long as hard call. Gas prices are very high effectively. As long as those are high, they set high power prices and the margin that's left over for Ignite generation after carbon costs is enough to keep it alive and actually do quite well and keep it ahead of these other sources of. Generation in the, on the price curve for determining who, who gets to go first. So I think in a sense it's a good insurance policy that Germany's coal phase out schedule, that, that compensates utilities for coal closing plants and the country's going to close how much? I think around 36% of it's hard coal fired power plants between. Last year, this year and next year, taking it down to about 15 gigawatts. So that's a significant drop. And so we will see coal emissions, coal fired emissions come down in the coming years despite all of these factors we've just been talking about and the rebound in coal fired generation de, despite its rebound in its competitiveness. The other thing I think that's really interesting, what it does is at the moment, we don't know how long this high price environment's gonna last. It's trying to make a prediction. There is a bit like trying to say how long is a piece of string, but as long as we have these really high prices. Then renewable energy is looking super cheap to build.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 10:39

That is, that's the key, isn't it? Yeah,

Nathan Witkop, Correspondent Germany, Montel: 10:41

it's, yeah. This is, this has gotta be a clear signal that if now's not the time to radically cut emissions through far more ambitious rollouts of clean power. Then, I'm sorry, when is,

Richard Sverrisson, Editor-in-Chief Europe, Montel: 10:53

absolutely. No, just, this is a bit of an off the wall question. Do you think there would be any increased calls to restart nuclear power or nuclear plants in Germany?

Nathan Witkop, Correspondent Germany, Montel: 11:01

No, I don't think so. I think the nature of German politics, you have to understand. We could get into a podcast just on this now, but I was having this conversation with someone else the other day, and look, I think. For a start, you have to appreciate that Germany's political system is built very much around consensus. And that's for very specific historical reasons that we should all be aware of. There was a clear aim after the second World War to build a system that could not allow another dictator to come to power the way that Hitler did. The system is, it's very hard for one party to have a winner takes all success following elections. In fact it's pretty much impossible, unlike, say, English speaking countries, you really do need to form coalitions across political divides. So just as a start, I think it's important to point out that. It's very consensus oriented. The Germany's next government will be a coalition of some sort. I think that we can talk about the elections in a moment. I think they've become a lot more interesting than where things stood six months ago and because there was a consensus on leaving nuclear. I think that consensus will be upheld. I think it becomes. It's just not very German to at the last moment, tear everything open again. So I don't see that happening. And I think the bigger pressure will simply be to, in the first place, step up the country's roll out of renewable energy, far more swiftly to overcome the bottlenecks that are holding it back and in the second place to bring forward the closure of coal fired power plants. To bring it more in line, the timetable to say 2030. That reflects the Paris Climate Agreement. Ambitions and also that the implications of the eus goal to cut emissions by 55% by 2030. It would be very hard to deliver these goals while sticking to Germany's present Timetable for closing call.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 13:07

Olav, if I can turn to you here. There's been a similar debate in Sweden, hasn't there, about potentially. Turning back or going back to nuclear power what's the current status here now amongst these very high prices? There

Olav Vilnes, Editor Nordics, Montel: 13:16

is a debate, and I think it's quite interesting to see when the next the minority government in Sweden have been under pressure from the opposition to do something about the electricity situation than, and of course, if you look at the prices this summer, calls haven't really become less vocal over it. They're still. Parties that want nuclear, they want probably to restart the last nuclear plant that was shut down at the end of last year. And there are also calls for maybe the government to open up for new build in the future using new technology, whether it'll be a more small scale, modular reactors or a large one, but. I don't think the sector is that interested in investing. If you listen to Vattenfall and other companies, there's not really any plans to build any in nuclear now in, in Sweden. So I think it's more, and they also quite determined, they were quite determined to just continue on with the plans to phase out the decision they had made in the past. So I think now the existing reactors, they will run until like 2040s. And they will sure, they'll run until the 2040s. I don't see any reason why they shouldn't but I don't. Think you will see any restart. But maybe there is an interesting debate going on there. So there, there could be a call. And I think also the public opinion, both in Sweden and and also in Finland have turned more pro-nuclear in recent years linked to climate change and a link to the problems that some people see with the systems stability and things like that. The volatility that market full of wind and solar increase that increases the price volatility. And you've seen some. Periods now very high support prices there. That of course calls some criticism from from end users.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 14:41

Yeah, absolutely. We'll return to industry in a minute, but I think we talked about very high gas, carbon coal prices, with gas prices, 40 45 euros, a megawatt hour on the TTF that's in the summer, as Nathan mentioned, the fear of what's gonna happen this winter if the supply constraints stay in place. But in the Nordic region, we've seen, extremely high spot prices in recent weeks, from 70, 80 to a hundred euros, over a hundred euros per megawatt hour. What are people saying about the winter? This is this price of, in August what can we expect from November to January? Yeah,

Olav Vilnes, Editor Nordics, Montel: 15:12

we could say it's extremely high, but it's quite low compared to German levels because, if you look at the German levels, it's been around a hundred euros, which reflects, of course, the short term marginal cost of coal and gas, fire plots. The Nordic region have been held, owned by a. Coming into the year with the hydropower surplus. But what you've seen in recent weeks and months is that producers are starting to hold back on hydropower managing to lift prices towards German levels. And of course what analysts have told me is that if this relatively dry weather continues now into the rest of August, into September, then you will see that the Nordic region will have to stop exporting as much power as they have done earlier in the summer. And to do that, they then they need to lift prices up towards German levels. And then you have to look at what is the pro, what's the future price that in Germany, and then you have a hundred euros, but for Q4 and for Q1 next year, so probably Nordic prices will rise from currently they are like about 60 euros now for for both Q4 and Q1, and then maybe some, somewhere in between current levels and the German level. I think that's the consensus among the analysts I've spoken to.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 16:17

Yeah, some price zones have already seen over a hundred Euros in the Nordic region Sweden in this week.

Olav Vilnes, Editor Nordics, Montel: 16:22

Yeah. And we have, of course, that's a big, that's a very important point. Of course, you have the 15 bidding zones in the Nordic region, which of course makes it. Some of the regions that have a more tight supply demand balance and also have borders with Germany, they have seen higher prices like Denmark and like southern Sweden, and I think also Southern Norway will have higher prices. We just have to remember, the UK cable that comes online now in later this autumn will of course draw 1400 megawatt of exports into a market that is even higher priced than the German one. So I think the outlook is extremely bullish at the moment for the Nordic region.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 16:51

And you have the other nuclear card alto ultra ulu three is still, is delayed coming back as well. And that's another, a additional bullish factor, right?

Olav Vilnes, Editor Nordics, Montel: 16:59

It is because I think they expected the trials to start earlier this autumn now, it was postponed until November and I think the commercial launches will be late April next year. And everyone who have followed the all kilo to saga and have VIN. Are old enough to remember when they started. Then of course they, they know that there could be more delays coming, but but I think now at least it is finished now. It's just about testing and so on. So probably this plant will come and it'll dampen prices when it comes online, but probably not. This winter and probably not in the early winter. And that, of course, that's when prices can peak. So that's that's probably also a concern for the short term curve.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 17:33

You mentioned end users, all of, you've spoken to industry both in the Nordic region and outside the Nordic region. What are they currently saying? How sustainable are these high prices for the region's heavy industry or power intensive sectors?

Olav Vilnes, Editor Nordics, Montel: 17:46

Yeah, I spoke to some of them and I know that just a year ago I remember a representative of Alcoa, a large aluminum producer was taking part in the Nordic Energy Day and was very happy about the market because prices were very low. It was a competitive market and they still like the market, but in a way, now with the current prices, they just told me that if prices stay at 60 euros, then they will that will remove their competitive advantage of being located in Norway because that's low prices, low power prices. It's always been a competitive advantage across the Nordic region to have low power prices. And now of course, if prices rise to these kind of levels, then it'll not no longer be that. And that's of course a concern for them. They are of course, shielded. Most of them have they have hedged themselves through poor purchase agreements and other deals. So they won't be, they won't suffer very much today. But of course, if it continues. For a longer period than it'll be problematic for them.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 18:34

The EU has this great policy of, or the idea of the measure, the carbon border adjustment mechanism, the cbam or the carbon border tax, which it plans to implement by 2025 or 2026. And it would be a shame if there was no industry left to, to shield from high from the carbon prices because of the electricity prices,

Olav Vilnes, Editor Nordics, Montel: 18:53

definitely. And and that's also what the European association of of large industrial energy users. IVX said earlier this week was that of course there is this I mean it's the carbon market. The carbon border adjustment mechanism is also a bit divisive among industries because it's is probably not very good for export oriented industries because what they then risk is retaliation. So they want it can close their markets in a way. It is probably better for those that are focused on import. So they want to just keep the current mechanisms as well, just the scheme that compensates them for higher energy costs. The one that gives free al free allocation to some sectors that are subject to, to, to international competition. Some also want to reform the et TS and stop the stability reserve, which has of course been a main contributor to the rise we've seen in carbon prices over the last few years. And I think the main reason, of course is that what can politicians do here? They can't really do anything with the gas prices or the coal prices, but they can do something with the rules on the emissions market, which is a political market. So there will probably be some more pressure now from. Lobby groups that are concerned about high prices against the carbon market. But that's always been a debate in Europe. What's a tolerance level for a high carbon price now with 58? Is that the limit? Should it be even higher? That that's of course it'll be interesting to follow. It's a very important questions.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 20:09

Nathan, always when you get these periods of very high prices, there is a risk of political intervention as all I've just mentioned with maybe pressure on reforming ETS or putting in places, ways to alleviate the effect for industry. There's also an issue of full poverty, which is a real issue. We've talked about industry and we've heard some noises coming from some countries in Europe about putting in place or maybe making some changes to the market structure, introducing a cap on prices. What are you hearing or what do you think there's a realistic risk of political intervention in the wholesale energy markets?

Nathan Witkop, Correspondent Germany, Montel: 20:42

Yeah, I think intervention in some way or another is inevitable. And it's almost like you can't really have it both ways. You can't really say, oh, we need more markets. And then expect fair or non-disruptive outcomes If you rely purely on price signals. If we look at how constrained we have to make carbon to meet our climate objectives, and if we were just to translate that purely into prices, then. We would bring about the shocks that, that everyone is so concerned about, and I think that the EU is very attuned to not. Wanting to let these shocks either produce yellow vest movements or a reaction from people hurt and disrupted by this, especially people who are already poor and worst placed when it comes to heating their homes or driving somewhere to work. But also it's industry. It's signaled very loudly that it's aware of these concerns, but it's also between a rock and a hard place. And I think what that ultimately it means is. The more we intervene, the more we make the EU ETS wrestle less relevant as a mechanism, which I don't necessarily think is a bad thing, I would be stoned by half the people who listen to the podcast perhaps, for saying such types of things. Slightly controversial. Yep. Yeah. I think it's, in a sense it's inevitable that we'll bring about more intervention because if we do let prices. Spike to the levels that they would need be needed to spike to, to prompt the changes that we need. Then we would bring about a countermeasure, either from industry or either from the streets. There's a response to that. And so the other side of it is that. The more we delay, the more we wait for the carbon price to reach the levels that are needed to bring about change in certain industries, whether it's to incentivize hydrogen production or something like this. The less time we have realistically to be able to bring about these technologies. And the fact is we need to be getting on with the investments. Now business says it wants planning security, and if you want to give planning securities and you have to, in a sense reach past the carbon market and start to come up with all kinds of other tools, that, that end up watering it down in terms of things like the proposed carbon contracts for difference as far as I understand. If say a steel producer considering an investment in hydrogen says look, we would need a carbon price at 130 Euros a ton to justify that. But, carbon prices on the carbon market are 60 euros a ton. So there's, there's a difference of 70 euros that needs to be covered there. Before we would entertain doing that you could set about issuing auctions to industrial. Groups to say, Hey, look who's got the cheapest plans for bringing about these kinds of investments that will bring down emissions. This hydrogen producer or this steel maker, there's 130 a ton. We'll give them the difference. 70 euros if the carbon market stays below that, if the carbon market rises above, then they've gotta pay us the difference back. These kinds of clever mechanisms provide business and government with planning, security, and share the risk, share the expense. But of course, it's not conducive to having a liquid carbon market, let's say, because then more and more people will only want to. Shore up their carbon risks this way, and you don't really have the market itself. You don't need to have all of these companies entering into the carbon market to hedge their future needs. So the long and short of it, I think basically, I think there are no non-radical futures. We either. Take make massive changes to get us onto a path that aligns with the emissions reductions We're aiming for all we keep on carrying on as we currently are, and massive changes are coming our way. One way or another.

Richard Sverrisson, Editor-in-Chief Europe, Montel: 24:56

Absolutely. And I think we've got quite a rollercoaster ride ahead for the coming weeks and months. Olav, Nathan, thank you very much for a fa fascinating discussion. And I think, we'll keep on watching these markets and these price levels and we'll come back at at a later date and discuss it in more depth. So thank you very much guys. So listeners, you can now follow the podcast on our own Twitter account 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@montenews.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.