Kremlin's Long-term Gas Deals in Europe Intact For Now

 

But Russia will only be able to preserve its long-term contracts for the next few years and will eventually have to sell more of its gas on the spot market, loosening its hold over customers, analysts said.

 

The long-term deals, some of which span 25 years, have been the bedrock of Gazprom's dealings with Europe. Moscow says they allow for long-term planning and multi-billion-dollar investments, while they give buyers security of supply.

 

The deals are being challenged by spot gas markets in Europe, where prices are usually cheaper than those charged by Gazprom and traders can buy gas as and when they need it.

 

In response, Gazprom has agreed to include some components of the spot pricing mechanism - up to 16 percent of total gas deals - in its contracts.

 

Gazprom's average gas prices have fallen by around a quarter since 2007, after which the company started to tweak long-term deals, via discounts and including spot pricing components, said Tatiana Mitrova at Moscow's Energy Research Institute.

 

On top of that, the price Gazprom charges in long-term deals has tracked oil downward because the contracts are indexed to the price of crude with a lag of up to nine months. That has made them more competitive with the spot market.

 

The Oxford Institute for Energy Studies said in a research paper last month that Russia may offer lower pricing if it wants to defend its volumes and gas market share in Europe, which rose last year to an all-time high of 31 percent.

 

"One could perhaps describe this as a variation on the strategy which has been used in former Soviet states for decades - provide cheap gas to create or maintain dependency in order to create a political bargaining tool at a later date," it said.

 

"Flexible Deals"

 

On Monday, Gazprom warned investors it would not quickly alter the way it has been dealing with buyers.

 

"Gazprom is offering flexible contracts and this flexibility surely has its price," Alexander Medvedev, Gazprom's sherpa in dealing with European clients, told investors in New York.

 

Gazprom does not rule out charging Europeans as low as $169 per 1,000 cubic metres in 2016. That compares to a UK gas price, one of the benchmarks for the European spot market, of $162 per 1,000 cubic metres using the current exchange rate.

 

Valery Nesterov, an analyst with Moscow-based Sberbank CIB, said the long-term contracts, some of which terminate as late as 2025 and 2030, have a future.

 

"I would not say that Gazprom will scrap long-term deals in the foreseeable future. The company may adjust the deals, apply coefficients to the formula in order to move its prices towards those in (spot market) hubs," he said.

 

Low oil prices also allowed Gazprom to strengthen its position in Europe last year. Germany, Russia's top gas buyer, bought 45.3 billion cubic metres of Russian gas last year, an all-time high.

 

That is because Gazprom has lower costs than some other exporters, so it is able to keep selling gas at a price that for some rivals would no longer be profitable.

 

However, the influx of liquefied natural gas (LNGLF) to Europe from Australia and Qatar as well as the United States, will in the long term likely prompt Gazprom to be more flexible in defending its market share.

 

(Reporting by Vladimir Soldatkin, Nina Chestney, Oleg Vukmanovic, Vera Eckert, Denis Pinchuk and Nerijus Adomaitis)