Cheap Oil Supporting Grid Price Stability

Ben Faulkinberry

A number of factors this December have weighed on already suppressed crude oil futures, bringing front-month prices to sub-$40 lows not seen since the global financial crisis. These factors include: the imminence of a U.S. interest rate hike translating into a stronger U.S. dollar, OPEC’s decision to maintain high levels of oil production in spite of an oversupplied global marketplace, and the prospect of slowing global demand.

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While oil price stakeholders increasingly feel the pain or reward of cheap crude, one additional group stands to benefit in the near term; end users of grid electricity, particularly those utilizing index-based supply contracts.

In electricity markets susceptible to high levels of price volatility, namely New England during the winter and Texas (ERCOT) during summer, cheaper oil reduces the cost to dispatch oil-fired peak-load generators, also known as ‘peakers’. These oil-fired power stations are typically generators of last resort, and are traditionally used for short amounts of time when high market prices justify the higher costs associated with operating them. Lowering the barrier for these generators to enter the market should theoretically shave off some of the high intra-day peak prices seen during periods of significant volatility. This winter, this effect will be layered on top of other factors contributing to an already more stable price outlook. These factors include starting the U.S. natural gas withdrawal season with a record amount of gas in storage and a strong El Niño helping temper heating demand on the East Coast, at least through Christmas. Natural gas at the Henry Hub is currently testing 3-year lows for the front month, and the 12-month strip is at 1999 levels.

Cheaper oil should have a stabilizing effect on electric market prices for end users in Europe as well, but in another way. Liquefied Natural Gas (LNG) prices are often correlated to the price of Brent Crude, and as such are also currently experiencing lows. LNG is used in Europe to augment domestic gas supplies at times to supply demand for both heating and generation, particularly in the U.K. where its highly liquid National Balancing Point (NBP) is often where LNG shippers offload cargos which cannot fetch more favorable pricing elsewhere. NBP gas prices continue to trade near market rates for LNG in Asia, helping keep the NBP a viable destination for the growing global supply of LNG.

Even in light of current low fuel costs, customers are by no means guaranteed price stability. Unexpected winter weather events, supply disruptions and geopolitical challenges can alter the dynamic swiftly. Stay in touch with market movements by subscribing to Ecova’s weekly Market Watch Newsletter on the Ecova Energy Price Hub.

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The information in this page is offered only for general informational and educational purposes. It is not offered as and does not constitute legal advice.

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