Energy Outlook

October 2022






October 2022

As we have moved through the summer the markets have set new records, rising to levels which were previously unthinkable. The very real threat of gas shortages in Europe caused by a loss of Russian supply this coming winter has been compounded by fear and speculation to generate the worst market conditions we have ever seen. The next six months will be crucial in determining what the new long-range price level for gas is likely to be. A bad winter and widespread loss of supply could see wholesale markets explode again. On the other hand, if Europe and the UK cope well with the reduced flow through demand reduction and extra LNG supply, the markets could breathe a sigh of relief and finally relax.

Is this the peak of volatility and extreme prices for our energy markets, or is there worse to come? What will the effect of the market turmoil be on non-commodity costs? Will the government’s Energy Bill Relief Scheme be enough to mitigate disaster? Although we won’t know the full answer to this until we start to emerge from the other side, a rocky ride should be expected!


Energy Price History

The chart below shows the price history for the major energy commodities since 2020, showing the dramatic change from the lows at the beginning of the coronavirus pandemic to the unrelenting volatility and ever-increasing prices over the last year, reaching a crescendo just a few weeks ago.



Although they have all moved in a similar direction, UK Gas and power prices have become decoupled from oil over the past year due to the huge impact of the upstream Russian gas supply situation in Europe, with the increase in these markets far outstripping oil.


OIL

It’s important not to lose sight of oil prices. Although they may be overshadowed by other localised factors in the short term, they remain an underlying driver of gas and power in the long run. This is important because it will be one of the elements which determines where the ‘new normal’ for gas prices will ultimately settle.

Oil has been coming down from its peak in the summer mostly on the back of concerns around global recession. To counter this, oil cartel OPEC (and its ‘OPEC+’ associates, including Russia) have suggested that they may curb production in the last quarter of the year. This may be just enough to slow down or halt the slide.

The recent change in Prime Minister has resulted in a dramatic change in direction for fiscal policy which has not been well received by world markets. The immediate impact of this has been a plunge in the value of the pound. Since commodities like oil and gas are priced in dollars and euros, this adds real inflationary pressure.

GAS

Gas continues to be the main event with almost daily headlines in the mainstream press giving inevitably bad news, the latest being the alleged sabotage of both Nordstream pipelines. That said, as we head into winter there is a sense that Russia has played as many cards as it can, so there aren’t many more supply-side problems that can emerge. Demand-side issues are still a risk in spite of a widespread expectation of a reduction in consumption due to a combination of higher prices and some government-mandated actions across the continent. If we have an early cold snap this winter, prices could surge again and in spite of the short term relief provided by the Energy Bill Relief Scheme the impact will be far-reaching, affecting the future price for next winter and beyond.

There are some reasons to feel positive, though – storage levels across the continent are hovering around the 90% level and plans are in place to recommission the Rough Storage facility in the North Sea in the future. If the gas system remains adequately supplied in spite of the colder weather, a fall in wholesale prices to a more reasonable level can be expected. How far to fall is another question – a return to 2021 levels seems unlikely!

ELECTRICITY

Electricity prices are over 95% correlated with gas because gas-powered generation remains the dominant price-setter in the UK electricity market. In reality, gas is not the only problem in the world of electricity. You may have read that National Grid has agreed the re-establishment of some previously mothballed coal-fired facilities this winter as a contingency, which is good for physical supply security, but bad for carbon emissions (and the cost of allowances) and not a saviour for prices, as the coal markets are also at record high levels, trading at nearly $400/tonne.

It has been well documented that France has had to temporarily shut down around 50% of its nuclear generation capacity over the past three months, partly due to low water levels (needed for cooling) over this very dry summer. This has caused even worse problems for the French wholesale market than we’ve seen in the UK, with the knock-on effect of power being exported across to the continent to take advantage of higher prices.


Non-Commodity Costs

Non-commodity costs (sometimes called ‘Non-Energy Costs’) are included in every bill and relate to things like the fixed costs of maintaining the physical electricity network (the National Grid Transmission System and local Distribution Network Operators) as well as the costs of Environmental Charges to fund renewable subsidies and taxes.

Figures based on an average UK Half-Hourly portfolio


NON-COMMODITY COSTS OUTLOOK

The outlook for non-commodity costs is mixed. Although they don’t change with the same frequency as wholesale gas and power prices, they are not immune to market forces. On the positive side, the exceptionally high power prices we have seen means that generators supported by the ‘Contracts for Differences’ (CfD) scheme will be paying back into the scheme instead of taking from it – filtering into bills from next April. Conversely, the high prices and volatility on wholesale markets mean that National Grid’s costs to balance the electricity system have grown significantly. This means that BSUoS charges will continue to increase for at least the next two years. Of more potential concern is the possibility that the government will seek to recoup the costs of its energy price guarantee mechanisms this winter. The pink bands above give a conservative estimate of what impact this might have – potentially adding 4p/KWh or more to everyone’s bills from 2023 or 2024.

For more information, please get in touch with your Utility Aid Account Manager or call us on 0808 1788 170


DISCLAIMER – This Outlook Paper is provided for information purposes only and may include opinions expressed by Utility Aid Ltd (“UA”) which are not guaranteed in any way. UA does not represent or warrant that the information provided to you is comprehensive, up to date, complete or verified, and shall have no liability whatsoever for the accuracy of the information or for any reliance placed on the information or use made of it by any person or entity for any purpose. Nothing in this Outlook Paper constitutes or shall be deemed to constitute advice or a recommendation to engage in specific activity or enter into any transaction.

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