Liquefied natural gas infrastructure was little more than a peripheral consideration two years ago, with export and import facilities located where the demand and supply existed.
Historically, the highest demand has been in Asia, particularly in China, Japan and South Korea. China imported LNG equivalent to 109.5 billion cubic metres of natural gas in 2021, corresponding to 21.3 percent of the world’s traded LNG that year. What’s more, China has 100bcm of LNG contracted for 2023 and will remain a key offtaker, as will Japan and South Korea.
In Europe, LNG had, until recently, been an afterthought, as pipelined natural gas from Russia, Norway and North Africa formed the backbone of the continent’s energy supply.
This dynamic changed dramatically when Russia invaded Ukraine in February. Suddenly, LNG became central to questions of national and regional energy security in the Northern Hemisphere, as Europe’s short- and medium-term gas supply problem reverberates around the globe.
Even with significant demand reduction and increased pipelined supply from Norway and Algeria, as well as more LNG cargoes, the EU expects a shortfall of as much as 30bcm of gas next year. As for the future, around 200bcm of non-Russian natural gas was piped into the EU in 2021. This suggests that if the natural gas demand falls below 200bcm, imports of LNG imports may be unnecessary. However, according to stated EU policies, natural gas demand will be 340bcm in 2030 and 235bcm in 2050.
“We forecast that the EU would need to attract at least 120bcm per year of LNG to 2026,” says Stefan Ulrich, senior associate at BloombergNEF. “After that, demand reduction via decarbonisation could lower the need for LNG, unless pipeline supply from other regions falls off more sharply than expected.”
On this basis, LNG is likely to remain a crucial part of the EU’s energy mix for at least a decade. Even if the flow of Russian gas to Europe were to increase, it might be prudent to maintain LNG regasification facilities for the sake of the region’s energy security.
At the moment, Europe’s capacity for regasification of LNG is 157bcm – well above what it needs – but a lot of the capacity is in southern Europe.
“Europe’s gas grid was designed for flows going west and south, not north and east,” says Ulrich.
“This is not easily rectified and has put pressure on the LNG terminals in Belgium and the Netherlands, contributing to a premium of up to €60/MWh on LNG from those terminals compared to hub prices at pricing points. With more LNG processing capacity, this premium should fall, and the gas will be cheaper.”
This structural inadequacy creates opportunities for infrastructure investors worldwide as facilities for liquefaction, regasification, storage and transportation of LNG are sought after.
Europe: The new demand centre
Igneo Infrastructure Partners, which sees a very clear case for infrastructure in the case of regasification, invested in LNG infrastructure before the war in Ukraine.
“The reason we invested in LNG infrastructure both in Italy and in Spain was because facilities there were considered necessary for the security of supply, so they were economically regulated to ensure the availability of gas,” explains Marcus Ayre, Igneo’s head of Europe, referring to the firm’s investments in the Toscana Floating Storage and Regasification Unit, and in Reganosa, an onshore regasification facility, which the firm has since exited. “For an investor, this provides security of income and predictability of cashflow.”
Ayre confirms that Igneo will be looking at new assets and envisages more regulatory support.
Athanasios Zoulovits, a partner at Paris-based InfraVia Capital Partners, matches Ayre’s bullishness. “As buyers, we see a sea of opportunities for investments all along the LNG value chain. This includes standard LNG carriers for transcontinental shipping and smaller-scale LNG such as vessels that can carry LNG to remote places where the grid is hard to get to.”
However, he adds: “With the former category of vessels, it is hard to find value given the asset prices in the current security of supply context, and there is always an element of technology risk from engine regulations, etc, that can create obsolescence risk.”
Zoulovits does not exclude investing in large regasification units based on size. “Typical cost is €1 billion to €2 billion, and we just closed a €5 billion fund. A floating storage regasification unit (FSRU) could be a core-fund asset, though not all the income will be regulated so there is some volume risk.”
Since 2020, InfraVia has been invested in Molgas, a company that sells and supplies LNG via road from plants in Spain, Portugal, France and Belgium to small, local regasification plants at point-of-need, such as factories, LNG fuel stations and for bunkering at ports. It’s also invested in Gasnor, which does the same but in Norway.
It falls to Terry Pratt, a director and primary ratings analyst focused on LNG at Fitch Ratings, to temper some of the bullishness around the European opportunity. “I don’t think anyone understands what that long-term, contractual demand from European buyers will actually be,” he cautions. “So it’s hard to understand what those markets will look like in the future. Some entities are signing long-term contracts, but others are choosing not to or are unable to do so.
“It’s questionable how this European dynamic will change the landscape for US LNG [for example]. It looks great right now, but these projects take time to build out, and there’s no telling what European demand will look like 10 years from now.”
The US: The export expert
Fortunately, infrastructure fund managers based on the other side of the Atlantic and representing a major export market have also been studying the LNG space for some time, investing in it pre-crisis. In that sense, the value that has accrued on the assets of US-focused GPs doesn’t just come from newfound, post-crisis valuations – it comes from further investments in those assets, too.
For instance, Stonepeak – which last October announced the $6.2 billion acquisition of Teekay LNG (renamed Seapeak), one of the world’s largest independent owners and operators of LNG carriers – hasn’t invested in any new platforms since the Russia-Ukraine crisis began. “We’re more focused on making additional investments in our existing platforms in light of the crisis,” says James Wyper, senior managing director and global head of transportation and logistics at the New York-based firm. Shortly after the interview, Stonepeak announced that Seapeak would be acquiring Evergas, a Danish company that owns and operates multigas and LNG carriers, for $700 million.
Fitch’s Pratt agrees that those who have benefited from the Russia-Ukraine conflict are not new investors, but rather those who already owned LNG projects – especially projects with uncontracted capacity.
LNG and the energy transition: A risky relationship?
Increased demand for LNG, a fossil fuel, could delay the world’s move to net zero, but the energy transition itself could also pose a threat to LNG assets. We explore both scenarios
While increased demand for LNG creates opportunities for investors, there are caveats. First and foremost, natural gas may emit only half the CO2 of coal, but it’s still a fossil fuel – one that emits methane, which has a more powerful warming effect shorter-term than carbon dioxide.
“Everyone wants to see the proliferation of renewable generation,” argues Lee Mellor, partner at investment manager Ancala Partners. “We are strong supporters of this, having invested in hydro, wind, solar, biomass, biogas and geothermal. But the transition will take time to complete in full, and gas facilitates this process, for instance through balancing intermittent generation.”
Mellor’s view is fairly representative of the industry’s approach to gas. But a larger LNG market could still impede the energy transition.
“Increased competition for LNG supply could slow the energy transition in Asia in the shorter-term,” BloombergNEF’s LNG analyst Michael Yip says. “Elevated LNG prices would mean traditional demand centres – Japan, China and South Korea – have to turn to cheaper alternatives like oil or coal in the medium term to ensure energy security. Yet, although decarbonisation has been side-tracked slightly, it remains a long-term priority for Asian countries that still have plans for increased deployment of renewables and hydrogen infrastructure.”
Running out of gas
The bigger worry for infrastructure investors is whether a buoyant LNG market risks creating stranded assets in the future. On this, views diverge. “The biggest threat to these LNG assets becoming stranded is the energy transition,” argues Jay Rhame, chief executive of Reaves Asset Management. “There’s risk at the end of those contract periods – 20 to 30 years out – that there may not be another offtaker. All companies need to think about this and recalculate their strategy towards owning and retiring these assets rather than selling them.”
UK-based Ancala is aware of this. The GP invested in Welsh regasification unit Dragon LNG in 2018, having concluded that the UK’s need for gas would be ‘sticky’, with LNG demand supported by the depletion of indigenous North Sea gas production and a reduction in the UK’s gas storage capacity.
“Over the medium term, as the energy transition takes effect, we expect these tailwinds to moderate,” Mellor explains. “This is something which we have reflected in our investment case.”
But not everyone is concerned.
“Stranded asset risk does not keep me up at night,” says De la Rey Venter, chief executive of MidOcean Energy. “Perhaps if you built a massive pipeline from central Asia targeting the northern European gas market you would find yourself with an underutilised piece of infrastructure by 2040. But LNG is the ultimate flexible pipeline. If, in 2035, the demand for gas in Germany or the UK is lower than planned, those LNG carriers from Nigeria, Egypt, the Gulf of Mexico, will sail to India, Thailand or Vietnam.”
Matthew Runkle, head of renewables and midstream for Blackstone’s infrastructure group, also points to continued long-term contracts from Asia – as well as the EU designating natural gas as ‘green’, allowing more companies to contract for LNG – as being indicators that the fossil fuel will stick around significantly longer than most had thought before the crisis.
James Wyper, global head of transportation and logistics at Stonepeak, puts that longevity into context. “In terms of the potential for stranded asset risk, the global LNG trade in 2020 was roughly 350 million tonnes,” he says. “We think that will double by 2040. There’s just a tremendous need to enter the market and absorb that demand and probably quadruple LNG-related infrastructure capacity – and that is setting aside the geopolitical situation in Ukraine.”
This increased investment can come in many different forms, however. “At I Squared Capital,” notes managing partner and co-founder Adil Rahmathulla, “what we try to do is ask ourselves: what are the different ways to take advantage of this narrative, the growth in LNG and the role of the US as an exporter? Where do we optimise risk-adjusted returns – is it in the US with pipelines to transport gas to the liquefaction facilities, or is it investing in liquefaction facilities directly, or through domestic storage to take advantage of price arbitrage? Or rather, do you optimise on the demand side of things by investing in regasification facilities on the import side in APAC and Europe? Or do you invest in movable assets such as FSRUs or some combination of all of the above?
“We have been tracking the LNG space for a long time and invested in it before the crisis. Long term, nothing has changed in our views for LNG – Asian demand will still be a driving force, and price arbitrage will work out in the US’s favour. Favourable price differentials between [crude oil benchmark] WTI and [natural gas benchmark] Henry Hub, contractual designation flexibility, [and the] perceived geopolitical stability of US supply are key factors supporting this demand.”
Matthew Runkle, senior managing director and head of renewables and midstream for Blackstone’s infrastructure group, agrees: “We were certainly an early mover into LNG, and we took a view during covid that the LNG dip and under-utilisation of LNG export terminals would be temporary. And we’ve continued our activity in the sector throughout all of it.”
Contracts are central to investors’ comfort. Given that offtakers generally sign multi-decade contracts with LNG producers, locking them into a certain price, the asset has guaranteed cashflow. And since the investors who can ride this LNG wave have had high conviction in the sector for years, there is very little concern over whether an end to Europe’s energy crisis will bring the entire asset class crashing down.
APAC: The long-term customer
Confidence among LNG backers is on full display in Asia-Pacific, where investors are counting on countries in the region to continue to be a major source of demand.
“Gas demand will likely plateau in Europe and North America well before it plateaus in the rest of the world – and then most of the gas demand growth will happen east of Suez,” says De la Rey Venter, chief executive of MidOcean Energy, the global LNG company formed and run by energy-focused manager EIG.
“This is where the fundamentals for gas demand growth will remain strong through the 2030s,” says Venter. “Most of this demand will be satisfied by LNG, just by virtue of where the demand is – China, India, Pakistan, Vietnam – and where the incremental suppliers are: Canada, the US, Mozambique, Papua New Guinea, Australia. Any shift in gas demand in the 2030s from Europe to markets east of Suez might be part of an overall depression in the global gas demand curve, but we will see an increase in the demand for LNG.
“In recent years there has been too little investment in conventional energy supply, in oil and gas particularly but also in LNG. That creates opportunity for those who are willing and able to pursue it.”
The demand in APAC will be primarily driven by gas-based heavy industry, as well as a huge incumbent fleet of coal-fired power stations that could convert to natural gas.
In addition, Venter says, there is “substantial unmet gas demand” in both the residential and commercial sectors in the region.
What might this mean for infrastructure investors looking at the Asia-Pacific region? BloombergNEF’s LNG analyst Michael Yip says there is a pressing need for more LNG export infrastructure, although that is true globally.
Yip says the US is benefiting from this dynamic thanks to structures already in place there for project approvals. Asian exporters like Australia or Malaysia have seen less progress due to a need to balance liquefaction capacity growth with regulatory or political pressure to decarbonise and constraints on domestic gas supply amid declining gas reserves.
“As for LNG import infrastructure, there is likely sufficient import infrastructure for the key North Asian LNG markets given the current outlook,” Yip says. He adds, however, that emerging markets in the region have seen some delays in LNG-to-power plants and associated LNG import infrastructure, as developers have been unable to justify the economics at current high import prices.
One infrastructure GP involved in several Australian projects explains that projects there are more complex than in the US, because in Australia the projects have to take what is a “stranded” resource, not close to any import market. “They are very capex-heavy at the front end, but they are opex-light once established – so once you’ve spent all the capital, they are at the bottom of the cost curve. That’s attractive for an infrastructure investor.”
Infrastructure investors are noticing, says Kristian Bradshaw, a Tokyo-based local partner at law firm White & Case: “Previously, some infrastructure investors would have viewed LNG differently. These haven’t been traditional infrastructure assets because of the risk-return profile, but the fact that these types of investors are coming in means they can see a more stable return going forward. That’s especially true if you take out the construction risk because that capex cost still has the potential to balloon beyond expectation during the construction phase.”
There is little doubt that LNG is a true global commodity now, with plenty of opportunities across the value chain. And while demand has shifted to Europe – and the US remains the premier export market – investors in LNG infrastructure remain confident that APAC demand will continue to grow for some time to come.