Europe's Q3 2023 gas market fundamentals finely balanced

The third quarter will be a telling one for the European gas market, with all eyes on the rate of storage filling, Norwegian summer maintenance progress and competition from Asia for LNG.

With EU storage sites already around 77% full, stocks could top out well before winter meaning market players could struggle to find a home for gas in Europe later in the quarter.

But concerns over Norwegian reliability and the potential for strong demand for LNG in Asia -- in China in particular -- could see the market balance remain tight.

According to S&P Global Commodity Insights analysts, storage sites are expected to track the top of the five-year historical fill range through Q3 and be 95% filled by the end of September.

The fullness of EU storages sites is already significantly higher than in previous years. Facilities were filled to only 58% of capacity at end-June 2022 and to just 48% at the same time in 2021.

Filling is now almost on a par with 2020 when storage sites were at 80% of capacity by the end of June as demand slumped due to the COVID pandemic, prompting European traders to use Ukrainian facilities to store surplus gas.

The offer is there again from Kyiv, though uncertainty over insurance and the ongoing war could put market players off from using Ukrainian storage again this summer.

Expected uptick in demand

European demand more generally is set to remain muted in Q3, though is forecast by S&P Global to be slightly higher year on year as a result of the much lower prices.

European gas demand slumped in Q3 last year as prices soared, reaching record highs in late August.

Prices will have to remain high enough to sustain LNG deliveries into Europe and constrain demand sufficiently to allow gas storage to reach targeted levels, Alun Davies, Senior Director at S&P Global Commodity Insights, said.

"The risk for Europe is that should Asian cooling demand rise more than expected in Q3, the volume of LNG arriving in Europe could be lower than anticipated," Davies said.

Russia, meanwhile, continues to flow gas into Europe via Ukraine and TurkStream, and Russian LNG deliveries to Europe remain robust.

However, opposition to the EU buying any Russian gas persists despite it not being subject to any EU-level sanctions to date.

The European Commission has inserted a clause into its gas decarbonization package, now in trilogue, to give member states the ability to restrict Russian imports.

Concerns also remain about Norwegian maintenance. Gas production has been affected by the extension of maintenance at the key Nyhamna gas processing facility, while work is regularly scheduled at short notice.

Nyhamna -- which processes gas from the major Ormen Lange and Aasta Hansteen fields -- was taken offline in mid-May for annual maintenance, with its return delayed by more than a month to July 15.

The impact of the revised outage schedules at Nyhamna was the removal of 2.9 Bcm of gas from the supply mix in Q3.

"Expectations for Q3 are that pipeline flows will recover from summer maintenance but critically for price, no additional supply will be forthcoming," S&P Global said.

Concerns over Norwegian maintenance contributed to the recent TTF gas price increase.

Platts, part of S&P Global Commodity Insights, assessed the TTF month-ahead price at a more than two-year low of Eur23.25/MWh on June 1, but it has seen a number of spikes in recent weeks.

The TTF month-ahead reached a recent peak of Eur41.03/MWh on June 15, according to Platts assessments, and was last assessed June 28 at Eur33.83/MWh, up by 45% since the start of the month.

Gas-fired generation upside

With generation feedstock prices down and power demand only slowly recovering, Europe's electricity markets enter the third quarter in a less volatile place than this time last year.

Baseload prices just below Eur100/MWh for core markets Germany and France are down some 70% from June 2022, when the prices started to spiral.

European power demand is forecast 1.8% lower year on year across a 10-market survey, although September could match last year, according to S&P Global Commodity Insight analysts.

"As we move towards Q3 – when the power sector is generally tighter and much more exposed to upside risk from weather than in Q2 – there is still potential for the space for gas generation to expand," said Glenn Rickson, head of European power analytics at S&P Global.

Nonetheless combined gas and coal/lignite generation in Q3 is forecast to fall by around 25% year on year, with hard-coal generation seen down 44%.

With its nuclear availability improved, France looks set to remain a net exporter of power through Q3, with extra capacity from a new link to Italy scheduled to return mid-July.

Germany registered record imports in May and June and is forecast to continue this trend in Q3 before switching back to net exports for the winter.

The Dutch market meanwhile offers competitive fundamentals, registering the deepest negative hourly prices in the spring amid booming solar generation. Some 2 GW of offshore wind capacity are set to come online over the coming months, while Dutch coal has not operated since late May.

As usual the weather can play a key role in Q3 with the risk of heatwave impacts on air con demand and cooling water rules, even if partly offset by solar.

Hydro reservoir levels have improved bar Iberia, where resource remains well below average. Equally, low river levels can pose supply challenges, but improved peakload supply should ease concerns if environmental restrictions are applied on France's river-based reactors.

Solar cap on carbon

Carbon prices in Europe are likely to stay volatile in the third quarter as strong investor interest is offset by a rise in July auction volumes, ahead of the August lull.

Carbon allowances under the EU's Emissions Trading System traded in a wide range in Q2, oscillating between Eur79-Eur98/mtCO2, with prices rising sharply in early June after slumping to five-month lows in May.

Bearish sentiment, however, could return in July due to additional auction volumes under the REPowerEU deal, although demand may to some extent be supported by the prospect of August's lower auction volumes.

"Seasonal traded volume expectations are expected to see monthly totals remain steady between now and the end of August – as the European summer break limits significant short term EUA demand by investors, and industrial/power generation demand for EUAs is also limited (by low gas demand during rising output from solar generation)," analysts at S&P Global Commodity Insights said in a recent note.

The spread between EUAs and UK allowances is also likely to remain wide in the coming months amid soft demand and policy uncertainty over UK ETS reforms.

UKAs were trading near a Eur29/mt discount to EUAs by late-June compared to a discount of around Eur2/mt in early January.

With the discount of UKAs to EUAs now below the structural premium in UK generator carbon costs, the trend could see UK power exports to Europe increase.

Analysts at S&P Global expect the UK to switch to a net power export position by the third quarter of 2023 or by October 2023, with UK natural gas prices trading at a discount to continental gas prices.