Price Dynamics in Europe and the North American …...De Vany, Arthur and David Walls (1993): Pipeline Access and Market Integration in the Natural Gas Industry: Evidence from Cointegration

1

Price Dynamics in Europe and the North American Natural Gas Market – Towards Convergence?

Prof. Dr. Christian von HirschhausenChair of Energy Economics (EE2) Dresden University

of Technology, and DIW BerlinBased on joint research with Guillaume L’Hégaret, Anne Neumann, and

Boriss Siliverstovs, in the Research Program on

„The Globalization of Natural Gas Markets“

Flame 2005Amsterdam, 24 February 2005

2

Background: DIW/EE2 Project “The Globalization of Natural Gas Markets” (2004-2007)

- Jointly between with Dresden University of Technology, Chair of Energy Economics, and DIW Berlin (German Institute for Economic Research)

- Main objectives:

- Assessing empirical evidence on gas market internationalization

- Econometric analysis of energy price developments

- Institutional economic modeling on governance structures

- Computational model of the European natural gas market

- http://www.tu-dresden.de/wwbwleeg/projekte/gg/gg.html

3

Agenda

1. The Issue: Convergence of Natural Gas Prices

2. The Transatlantic Link: European and U.S. Natural Gas Prices

3. Convergence of European Natural Gas Spot Prices?

4. Future of Oil Price Indexation

5. Conclusion

4

Inter-Regional Natural Gas Trade Flows are Growing Exponentially(2002 and 2030, in bcm)

152

1

184136

66 63

Source: IEA, 2004

5

Theory: Cointegration and Convergence

Cointegration:- xt, a N-dimensional process, is co-integrated if each component of the process is I(1) but

there exists v, a N-dimensional vector, such that v‘xt is I(0) Johansen Test

Law of one price:- LOP is equivalent to having every relative price in the system constant in the long term

α ~ transportation costs, quality, risk premium, etc.β ~ relationship between the prices

β = 0 no market integrationβ = 1 LOP holds; markets are fully integrated;

proportionate pricesConvergence

- A dynamic structural change, time-varying coefficient models Kalman Filter

β(t) ~ relationship between the pricesβ = 0 no market integrationβ = 1 LOP holds; markets are fully integratedβ 1 increasing market integration over time

lnp1 = α + β*lnp2 +et

lnp1t = α + β(t)*lnp2t + et

6

Agenda





5. Conclusion

7

Prices Used for International Cointegration Analysis

Henry Hub

Pipe USA

LNG USA

Pipe Europe

LNG Europe LNG Japan

Brent

Source: IEA, 2004

8

Cointegration of International Gas PricesEuropean/Japanese prices (logged) are cointegrated...

0 .4

0 .6

0 .8

1 .0

1 .2

1 .4

1 .6

1 .8

2 .0

9 4 9 5 9 6 9 7 9 8 9 9 0 0 0 1 0 2 0 3

LNG E uropeP ipe E urope

B ren tLNG Japan

9

… and so are American LNG, American Pipeline and Henry Hub prices (logged), at least since 1999

0 .0

0 .4

0 .8

1 .2

1 .6

2 .0

2 .4

9 4 9 5 9 6 9 7 9 8 9 9 0 0 0 1 0 2 0 3

LNG U S A P ipe US A H enry H ub

10

But: no cointegration Between European andNorth American Natural Gas Prices?

0 .0

0 .4

0 .8

1 .2

1 .6

2 .0

2 .4

94 95 96 97 98 99 00 01 02 03

P ipe E urope Henry Hub LNG E urope

11

2nd Approach: Convergence of Trans-Atlantic Gas Prices?(daily data, USD/MBTU)

0

2

4

6

8

10

12

1996 1997 1998 1999 2000 2001 2002 2003 2004

Henry Hub NBP

12

„Sign“ of Convergence of Trans-Atlantic Gas Prices:Increasing β Coefficient!

-0.8

-0.4

0.0

0.4

0.8

1.2

1996 1997 1998 1999 2000 2001 2002 2003 2004

13

Trans-Atlantic Trade in Natural Gas: Results

- No cointegration between European and North American natural gas pricesuntil recently

- But: „something“ is happening (increasing convergence)

- Future European natural gas prices may no longer be determined in Moscowor Oslo, but also at Henry Hub

14

Agenda



3. Convergence of European Natural Gas Spot Prices?3.1 NBP-Zeebrugge

3.2 Zeebrugge-Bunde

3.3 Future Interconnectors


5. Conclusion

15

Future Gas Hubs in Europe (?)(Cornot-Gandolphe, 2003, 106)

Zeebrugge

NBP

Bunde/Oude

16

3.1 NBP – ZeebruggeThe Interconnector: Flow Direction and Price Differentials

Forward Flow(UK => Continent)

Reverse Flow(Continent=> UK)

Source: IUK Ltd.

-12,0

-10,0

-8,0

-6,0

-4,0

-2,0

0,0

2,0

4,0

6,0

8,0

10,008

. Mrz

00

15. M

ai 0

0

26. J

ul 0

0

24. S

ep 0

0

23. N

ov 0

0

01. F

eb 0

1

02. A

pr 0

1

11. J

un 0

1

10. A

ug 0

1

09. O

kt 0

1

10. D

ez 0

1

08. F

eb 0

2

09. A

pr 0

2

08. J

un 0

2

07. A

ug 0

2

06. O

kt 0

2

05. D

ez 0

2

06. F

eb 0

3

07. A

pr 0

3

06. J

un 0

3

05. A

ug 0

3

04. O

kt 0

3

05. D

ez 0

3

06. F

eb 0

4

20. A

pr 0

4

15. J

ul 0

4

08. O

kt 0

4

05. J

an 0

5

Volume Traded (bcm)

-15,0

-10,0

-5,0

0,0

5,0

10,0

15,0

20,0

25,0Price Differential

(Eur/Mwh)

Price Differential Volume Traded

17

The Data: NBP and Zeebrugge Daily Day Ahead Prices (bid)

-0

-4

-8

-12

-16

-20

-24

2000 2001 2002 2003 2004 2005

-Z-e-e-b-r-u-g-g-e--(-E-u-r-/-M-w-h-) -N-B-P--(-E-u-r-/-M-w-h-)

18

NBP – Zeebrugge: Very Strong Convergenceβ-Coefficient of the Kalman Filter

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

2000 2001 2002 2003 2004

19

... Except for Shut-Down Periodsβ-Coefficient of the Kalman Filter

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

2000 2001 2002 2003 2004

20

3.2 But What About Zeebrugge and Bunde?Daily Day Ahead Prices (bid)

4

8

12

16

20

24

2002 2003 2003 2004 2004 2005

Ze e b ru g g e (E u r/M w h ) B u n d e (E u r/M w h )

21

Zeebrugge - Bunde: No Real Convergenceβ-Coefficient of the Kalman Filter

.0

.1

.2

.3

.4

.5

2002 2003 2003 2004 2004 2005

22

Potential Reasons for the Absence of Convergence

- Transport capacity constraints

- Inefficient use of pipeline capacity

- Lack of liquidity (mainly at Bunde/Oude)

23

3.3 Future Role of Interconnectors:BBL Bacton - Den Helder

Source: OIES, Jonathan Stern; Presentation SEPAB Meeting, DTI, 14 Dec. 2004

To be expected:

- Stronger coupling of Bunde/Oude, TTF, and Zeebrugge

- Increasing convergence withNBP

- NBP as benchmark for all NW-European spot market prices

- Market power of companiesholding interconnectorcapacities?

24

Agenda





5. Conclusion

25

Decoupling of Oil and Gas Prices in the US

0

5

10

15

20

25

30

35

40

45

50

Okt 92

Apr 93

Okt 93

Apr 94

Okt 94

Apr 95

Okt 95

Apr 96

Okt 96

Apr 97

Okt 97

Apr 98

Okt 98

Apr 99

Okt 99

Apr 00

Okt 00

Apr 01

Okt 01

Apr 02

Okt 02

Apr 03

Okt 03

Apr 04

Henry Hub LSFO US HSFO US WTIUS$/bbl

Source: IEA, Energy Prices and Taxes, several issues

Short-term decoupling (cf. also Serletis and Rangle-Ruiz, 2004)

Comovements of prices with oil prices still putting a price cap on natural gas

Increasing competition/substitutability between LSFO/HSFO and natural gas

26

Decoupling in Continental Europe?

0

5

10

15

20

25

30

35

40

45

50

Okt 98

Dez 98

Feb 99

Apr 99

Jun 9

9Aug

99Okt

99Dez 9

9Feb

00Apr

00Ju

n 00

Aug 00

Okt 00

Dez 00

Feb 01

Apr 01

Jun 0

1Aug

01Okt

01Dez 0

1Feb

02Apr

02Ju

n 02

Aug 02

Okt 02

Dez 02

Feb 03

Apr 03

Jun 0

3Aug

03Okt

03Dez 0

3Feb

04Apr

04Ju

n 04

Aug 04

NBP LSFO Europe HSFO Europe Brent

Source: IEA, Energy Prices and Taxes, several issues

27

Factors Weakening the Oil Price Indexation

- Non-oil indexed contracts (Statoil, Centrica, etc.)

- Increasing share of spot and short-term trade (towards 20%)

- Different underlying market structures and trends; e.g. stronger demandgrowth for natural gas, potentially leading to higher gas prices

==> Towards de-coupling, but in which direction?- European Commission (DG Tren, 2004) forecasts lower gas prices in the de-linking

scenario (2030: oil at 29.9 (2000) $/bbl., natural gas at 22.5 $/boe)- But: should European gas prices be determined at the Henry hub, higher gas prices than

oil prices may be expected

28

Agenda





5. Conclusion

29

5. Conclusion

- Globalization of natural gas markets is likely to lead to price convergence, future European gas prices may be set at the Henry Hub

- The first Interconnector has lead to full convergence between the prices at NBP and Zeebrugge

- Price arbitration on the continent does not seem to work well thus far; butfuture European natural gas prices will become more „interconnected“between the UK and the continent

- Judging from overseas experience, the oil price indexation of natural gas prices will not wither, but become much less strong than is currently the case

30

Price Dynamics in Europe and the North American Natural Gas Market – Towards Convergence?

Prof. Dr. Christian von [email protected]

Chair of Energy Economics (EE2) Dresden University of Technology, and DIW Berlin

Based on joint research with Guillaume L’Hégaret, Anne Neumann, and Boriss Siliverstovs, in the Research Program on

„The Globalization of Natural Gas Markets“

Flame 2005

Amsterdam, 24 February 2005

31

References

Asche, Frank, Petter Osmundsen, and Ragnar Tveteras (2001): Market Integration for Natural Gas in Europe. International Journal of Global Energy Issues, Vol. 16, No. 4, 300-312.Asche, Frank, Petter Osmundsen, and Ragnar Tveteras (2002): European Market Integration for Gas ? Volume Flexibility andPolitical Risk. Energy Economics, Vol. 24, 249-265.BP (2004): Statistical Review of World Energy, June 2004.De Vany, Arthur and David Walls (1993): Pipeline Access and Market Integration in the Natural Gas Industry: Evidence fromCointegration Tests. The Energy Journal, Vol. 14, No. 4, 1-19.De Vany, Arthur and David Walls (1993): The Emerging New Order in Natural Gas – Market versus Regulation. QuerumBooks, Westport.Deutsche Bank (2003): LNG: going… going… Gone Global. Global Equity Research.Engle, Robert F. and Clive W.J. Granger (1987): Cointegration and Error Correction: Repreentation, Estimation and Testing. Econometrica, Vol. 55, 251-276.European Commission (2001): Green Paper – Towards a European Strategy for the Security of Energy Supply. Luxembourg, Commission Document COM(2000)769final.Hartley, Peter R., and Dagobert L. Brito (2001): New Energy Technologies in the Natural Gas Sectors. Houston, Texas, The James A. Baker III Institute for Public Policy.Hendry, D. and K. Juselius (1999): Explaining Cointegation Analysis: Part II. Oxford, Nuffield College, Lecture Notes.Hotelling, H. (1933): Analysis of a complex of statistical variables into principal components. Journal of Educational Psychology, Vol. 24, 417-441, 498-520.International Energy Agency (several issues): Energy Prices and Taxes. Quarterly Statistics. Paris, OECD.International Energy Agency (2004): World Energy Outlook. Paris, OECD.Johansen, S. (1988): Statistical Analyis of Cointegration Vectors. Journal of Economic Dynamics and Control, Vol. 12, 231-254.King, Martin and Milan Cuc (1996): Price Convergence in North American Natural Gas Spot Markets. The Energy Journal, Vol. 17, No.2, 17-42.Kwiatkowski, D., Phillips, P.C.B., Schmidt, P. and Shin, Y., (1992), Testing the Null Hypothesis of Stationarity Against theAlternative of a Unit Root: How Sure Are We That Economic Time Series Have a Unit Root?, Journal of Econometrics, 54, 159–178. Serletis, Apostoles (1997): Is there an East-West Split in North American Natural Gas Markets? The Energy Journal Vol. 1, 47-62.Serletis, Apostoles and J. Herbert (1999): The Message in North American Energy Prices. Energy Economics Vol. 21, 471-483.Serletis, Apostoles, and Ricardo Rangle-Ruiz (2004): Testing for Common Features in North American Energy Markets. Energy Economics, Vol. 26, 401-414.Siliverstovs, Boriss, Anne Neumann, Guillaume L’Hegaret, and Christian von Hirschhausen (2004): International Market Integration for Natural Gas? A Cointegration Analysis of Gas Prices in Europe, North America and Japan. MIT CEEPR Discussion Paper 04-002 (January 2004).

32

BACK UP

33

Monthly Data (125 obs.)Summary Statistics (1993-11 to 2004-03)

4.66 2.48

1.40 0.62

8.49 2.14

1.42 0.35

1.51 0.43

3.08 1.03

Henry Hub Level Log

2.09 2.08

0.35 0.03

4.10 1.41

1.80 0.59

0.60 0.21

2.84 1.02

LNG Europe Level Log

3.93 2.84

1.29 0.80

6.41 1.86

1.77 0.57

0.98 0.28

3.09 1.09

LNG USA Level Log

6.03 2.76

1.69 0.78

9.45 2.25

1.34 0.29

1.49 0.44

2.84 0.94

Pipe USA Level Log

1.70 1.82

0.06 -0.14

5.12 1.63

2.74 1.01

0.69 0.18

2.84 1.35

LNG Japan Level Log

2.67 2.66

0.52 0.02

4.37 1.47

1.68 0.52

0.63 0.22

2.85 1.02

Pipe Europe Level Log

2.15 2.29

0.33 -0.15

6.02 1.79

1.79 0.59

1.05 0.29

3.76 1.29

Brent Level Log

Kurt.Skew.MaxMinStd. Dev.MeanVariable

34

Results PCA (using covariance matrix)First factorial plane

-0,60

-0,40

-0,20

0,00

0,20

0,40

0,60

0,80

-1,00 -0,80 -0,60 -0,40 -0,20 0,00

First principal component

Second principalcomponent

Brent

Pipe Europe

LNG Europe

LNG Japan

LNG US

Pipe US

Henry Hub

35

Unit Root TestsAll variables are I(1)

0.05-10.65***-6.19***1.01***-1.52-1.33Pipe USA

0.13-10.64***-4.24***0.63**-0.89-1.23Pipe Europe

0.05-14.97***-6.04***1.02**-2.05-1.21LNG USA

-5.49***

-3.01***

-3.76***

-5.80***

ADF

-1.43

-2.06

-1.70

-1.49

ADF

0.05-9.46***0.90***-1.90Henry Hub

0.07-9.20***0.75***-1.28LNG Japan

0.07-11.27***0.75***-1.26LNG Europe

0.07-10.53***0.64**-1.58Brent

KPSSPP KPSSPP

First Difference of Log LevelsLog LevelsMarket

Tests for prices in level use a constant but not a time trend. Tests for first differences areperformed with neither intercept nor linear trend. One / two / three asterisks indicatesignificance at the 10% / 5% / 1 % level, respectively.

36

Bivariate Johansen Test ResultsSupport for the “regional divide”

Ho: r=01

β2

LOP3

LOP*4

LNG Japan

BrentLNG Europe

Pipe USAHenry Hub

45.33*** 1,-1.03 (0.04) 0.5714.56***

Pipe USA

Pipe Europe

LNG Japan

Brent

LNG Europe

15.78

14.27

13.76

17.79

21.11** 1,-1.45 (0.17) 6.12** none

24.11*** 1,-0.84 (0.08) 2.32 13.84***

26.50*** 1,-1.11 (0.15) 0.480.72

7.49

62.84*** 1,-0.66 (0.02) 45.75*** none

54.97*** 1,-1.15 (0.59) 6.53** none

12.72

43.82*** 1,-1.31 (0.06) 17.69*** none

13.29

13.22

1 Trace test statistics of the null hypothesis of no cointegration2 Unrestricted estimate of cointegrating vector β normalizedat the row variable (standard error)3 Likelihood ratio test statistic of LOP β=(1,-1)‘4 Likelihood ratio test statistic of null hypothesis thatcointegrating vector β=(1,-1)‘ has zero mean

37

NBP – Zeebrugge: Deduced Price Differential

-8

-4

0

4

8

1 2

1 6

2 0 0 0 2 0 0 1 2 0 0 2 2 0 0 3 2 0 0 4

Eur/Mwh

Documents

Price Dynamics in Europe and the North American …...De Vany, Arthur and David Walls (1993): Pipeline Access and Market Integration in the Natural Gas Industry: Evidence from Cointegration