Ukraine crisis pushes oil and gas prices to new highs

Political tensions in Eastern Europe have put oil and gas prices on track to their highest levels since 2014. And there is insufficient LNG globally to replace Russian gas supplies in Europe.

Brent Crude surged to $90.69/b in January 2022 – the highest level for this global benchmark since October 2014, when Brent crude stood at $91.70/b. Faced with concerns about the mounting possibility of a Russian incursion into the Ukraine, US President Joe Biden says he will press severe sanctions on Russian leader Vladimir Putin if he orders an invasion.

Potential conflict carries large risks for financial markets and especially energy commodities such as natural gas and oil. Russia accounts for about 30% of EU gas consumption (via a network of pipelines that run through Ukraine, Belarus and Poland to Germany, and from Germany across to the rest of western Europe) and over 50% of EU gas imports.

‘The proportion [of Russian gas] has been rising over the last decade as domestic production has been reducing,’ explains Chris Wheaton, an analyst at Stifel Research. He suggests that Europe will be unable to replace Russian pipeline gas with LNG, as Europe would require ~130mn tonnes of LNG, or around 28% of global LNG capacity. Wheaton estimates that only 30–50mn t/y of additional production capacity is available.

Prices are forecast to rocket if Russian energy imports into Europe get cut-off. ‘We could see quadruple digit UK gas prices, at over 1,000 pence/therm in this event. Demand for power would need to be reduced, requiring industry shut-ins, and power rationing with rolling blackouts, to reduce average demand and shift and flatten demand peaks,’ says Wheaton.

‘New gas developments would become number one priority,’ he remarks. The planned shutdown of the Netherlands’ Groningen gas field in September could be postponed, along with a rethink of the opposition to onshore gas resources exploitation across Europe. There would also be a drive to grow renewable energy capacity faster, matched by investment in energy storage.

However, the analyst thinks Russia could weather the storm financially, despite losing about $45bn in annual revenue from loss of gas exports to Europe. However, ‘assuming geopolitical risk perception also pushed oil prices up by about $20/b to $100/b, the additional tax revenues generated from the higher oil prices would offset this loss of gas export revenue,’ Wheaton comments. What’s more, Russian oil exports would probably find new destinations.

The UK is not dependent on Russia gas supply. The UK received less than 3% of Russian gas in 2020, due to a diverse mix of nuclear, natural gas and renewables. The country meets 50% of its gas requirements from the North Sea. The rest is imported by pipelines connecting to Europe, or as LNG transported from Qatar or the US. However, gas sources could become even more expensive (and they are increasingly costly today) if markets in Europe soar, as the UK market is closely connected to European markets.

US investment bank Goldman Sachs told The Guardian: ‘The high energy prices seen in recent months are not necessarily a one-off.’ Gas prices are likely to stay twice as high as normal until 2025. Experts at S&P Global also warned that ‘any conflict impacting gas supplies into Europe could have knock-on impacts on power, carbon and coal prices.’