Streetwise Professor

June 27, 2013

Gazprom on the Spot

Filed under: Commodities,Economics,Energy,Russia — The Professor @ 12:02 pm

An arbitration tribunal dealt Gazprom a major blow with a ruling in a case involving the company’s contract with German utility RWE:

Russian gas export monopoly Gazprom’s efforts to keep a link between the price it sells gas and costlier oil were dealt a blow on Thursday, when a court ruled it had to include market pricing in the rates it charged Germany’s RWE.

Gazprom must also reimburse Germany’s second-largest utility for overpayments it made on gas purchases, RWE said on Thursday, adding to pressure on the Russian firm from European clients who say they have lost billions of dollars on long-term supply deals agreed at higher prices than current market spot rates.

Citing a ruling by the International Court of Arbitration of the International Chamber of Commerce, RWE said Gazprom had to reimburse it for gas purchases since May 2010, but declined to comment on the size of the expected payout.

Analysts said it was the first court ruling to impose spot pricing on Gazprom, which includes some spot pricing in its contracts, but has largely stuck to reducing oil-linked pricing to placate customers that have suffered losses on its gas.

The money matters, but that’s about the past.  What’s important going forward is the imposition of the spot pricing mechanism.  Gazprom has fought this tooth and nail, claiming inadequate liquidity in the European spot markets.  But it’s preferable to have gas contracts priced off a relatively illiquid (as compared to oil) spot market in gas, than off oil prices, given the low correlations between gas prices and oil prices.  Moreover, as I’ve noted many times, there is a virtuous cycle: moving to hub pricing will encourage trading at hubs, and the development of hedging instruments with payoffs tied to hub prices, which will encourage more trading at hubs, and so on.  This happened, and quickly, in US gas soon after the deregulation of pipelines in the late-80s and early-90s.

This is a world trend.  Asia, and Japan in particular, are pushing to move away from oil indexed pricing and pricing LNG imports based off of gas prices. This is particularly ironic in that Gazprom wants to use the Japan Crude Cocktail formula to price future LNG exports to Asia.  (Assuming, perhaps heroically that Gazprom is ever able to do this in a serious way.)

It must suck to be Gazprom right now.  Nothing makes me happier.

There’s bonus material in the article!:

“For me it is an evidence of huge shift in the European attitude towards the sanctity of contracts,” Tatiana Mitrova, the head of the oil and gas department at the Russian Academy of Sciences Energy Research Institute, said.

It’s always a matter of amusement whenever the Russians talk about the “sanctity of contracts.”  The devil, as they say, can quote scripture for his purpose.

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4 Comments »

  1. Really, from a signatory nation to the Molotov von Ribbentrop treaty no less!

    Comment by sotos — June 27, 2013 @ 12:19 pm

  2. But doesn’t Mitrova have a point? I’m sure when the contracts were signed, the German utility was happy that it’s getting a discount in exchange for taking the risk of a divergence in gas and oil prices. Now when the risk has materialized, all of a sudden the contract is invalid.

    Comment by aaa — June 28, 2013 @ 3:06 am

  3. @aaa-The claim that the contract has been violated would require you be believe that the arbitration panel flouted its terms. This would further require you to believe that Gazprom would take this lying down, because Miller was rather equanimous about the whole thing: “I will not disclose the commercial side of (the decision). It is the confidential part of our contract. We take a positive view of the court decision on the whole.” Note too that the issue relates to “the confidential part of [the] contract.” Meaning that Mitrova has no idea whether the terms of the contract were violated. None of us know what was in the contract regarding potential changes in price terms.

    To me this is a clear case of the dog that didn’t bark. Miller would be barking loudly had the arbitration panel been contrary to the black letter terms of the contract.

    The ProfessorComment by The Professor — June 28, 2013 @ 12:30 pm

  4. Thanks for clarifying this. Reminds me of Putin and Medvedev squealing about the Cyprus deposits haircut.

    Comment by aaa — June 29, 2013 @ 12:30 am

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