The vast European natural gas storage network will exit winter with its lowest level for years. Yet, market prices show a complacency that is at odds with the immense challenge faced by traders in replenishing their inventories.

Since the Russian invasion of Ukraine, four years ago, it has become important to replenish underground storage.

According to the European energy data platform AGSI, European gas storage fell to 44% on January 26. This is the 'lowest?level at this time of year since 2022 when it reached 40%, as the market scrambled for Russian supplies. It is also well below the 10-year-average of 58%.

If current trends continue, storage could drop to 30 percent or less by the end March, according to an analysis of historical data.

Gas will be needed to fill the remaining 30% of the storage tanks in Europe if the winter season ends with only 30%. This is the same level as last winter.

Most imports are used to meet daily demand, and not all of them go into storage. The majority are used for daily consumption, so Europe's total purchasing requirements could be huge in the coming months.

Europe imports gas pipelines from Norway, North Africa and Azerbaijan and also produces some of its own. The task of filling up the continent's caverns before next winter is enormous.

The Rescuing of LNG... again

The good news for Europe is that it should be able increase its already massive LNG purchases.

In recent years, chilled fuels have played an important role on the European gas market. In fact, the LNG imports to Europe last year increased by 30% and reached a record high of 175 bcm. As the European Union agreed earlier this month to phase out all pipeline gas and LNG imported from Russia by the end of 2027, the importance of this issue is expected to grow. This will end the five-decade heavy dependence on Russia.

According to the International Energy Agency, this ban will result in a reduction of 33 bcm (or roughly 12%) of European gas imports between 2025-2028. This shortfall will be primarily filled by LNG purchases. The world's energy watchdog predicts that LNG purchases could reach a new record of 185 billion cubic meters this year.

According to the IEA, fortunately for Europe, the global LNG production will continue to grow at a rapid pace this year. The IEA projects a 7% growth in 2026 - its highest rate since 2019. This is mainly due to new export terminals being built in the U.S.A., Canada, and Mexico.

This trend is expected to continue in the next few years. New capacity, mainly from North America, and Qatar, should total around 300 bcm annually between 2025 and 3025. This is a 50% increase from current levels.

PRICES CAN BE CONFUSING

The current European benchmark gas prices complicate the task of replenishing stock.

Summer TTF futures trade at a higher price than winter prices, which is the exact opposite of what's needed to make storage profitable. Winter prices have to be higher than summer prices in order to justify the storage and extraction cost. The so-called "backwardation" of today removes this incentive. The reasons behind this trend remain unclear. The traders may think that governments, particularly Germany, will intervene by providing subsidies or mandates in order to ensure the EU meets their legally required 90% storage goal by December 1. But it seems unlikely that the EU will meet its legally required 90% storage target by December 1.

A second explanation is that traders believe Europe will rely less on storing LNG as global supplies increase, which makes it easier to replenish stocks year-round. If that is the reasoning, then the logic is flawed. If Europe enters the winter months with low levels of storage, it could struggle to find enough LNG even if global LNG is readily available.

Thirdly, there may be an increase in speculative activity on the European gas markets. Seb Kennedy of Energy Flux, the founder of the firm, said that 444 funds had TTF positions in the last week. This is well above average for 2022 (185). Kennedy stated that increased speculative activity can distort and amplify volatility, contributing to the unusual summer-winter difference.

There is still plenty of time for the curves to correct and the spreads could return as the fundamentals assert themselves. Last year, a similar mismatch hampered filling efforts until the prices were adjusted before summer.

It is important to resolve the current pricing disparity. Storage is set to be at multi-year lows as Europe emerges from winter. It cannot afford a market that discourages replenishment.

As things stand, Europe risks entering another heat season without enough buffer. This is a risk that European leaders will likely not take.

The opinions expressed in this article are those of the columnist, who is also the author. Check out Open Interest, your new essential source for global commentary on finance. Follow ROI on LinkedIn and X. Listen to the Morning Bid podcast daily on Apple, Spotify or the app. Subscribe to the Morning Bid podcast and hear journalists discussing the latest news in finance and markets seven days a weeks.

(source: Reuters)