Weekly Wrap: Electricity rationing in Europe might soon be a reality

0
1174
Written by Citadel Global Director, Bianca Botes

Gas supply in the European region has been a topic of discussion since the start of the Russian-Ukraine war. The latest shutdown of the Nord Stream pipeline has reignited fears of a complete gas outage for Europe. In addition, the looming power crises is also gaining momentum, placing Europe in a very precarious position.

Key themes for this week include:

  • European energy crisis gains further momentum
  • Geopolitical risks remain abundant
  • Gold muddles along
  • Oil recovers from six-month low, copper bounces back
  • Dollar claws back lost ground

“THE CATASTROPHE IS ALREADY THERE”

“The catastrophe is already there.” These were the words of Thierry Bros, a professor in international energy at Sciences Po in Paris, as he called on European leaders to “wake up”.

This week, Russia’s energy giant, Gazprom, announced maintenance to the turbine that powers the Nord Stream Pipeline, sending gas prices through the roof, yet again, and reigniting fears of a severe gas shortage in Europe during the upcoming winter months. Many argue this move is politically motivated by Russia, given the war in Ukraine and the subsequent sanctions.

To add to Europe’s woes, a power crisis is also looming in the region. The power problems, that have largely been overshadowed by the focus on the war and the gas restrictions, is being driven by nuclear availability issues, depleted hydro levels, and declining thermal output, caused by fuel access issues and plant closures. Power prices across Europe are rising at a rapid rate, now effectively starting to outpace the recent runaway prices of gas.

Balkan Green Energy News this week reported that the power crisis is now lending momentum to the gas crisis, stating that acute power-market tightness across Europe has been a key contributor to rising forward gas prices over the last six weeks. Europe needs more generation output to keep the lights on, and the only remaining option they have is gas, but with the reduction in supply from Russia, this is not an easy order to fill.

Benchmark German year-ahead power rose 14% after earlier hitting a record €710/megawatt-hour, while the French contract closed 10% higher to €801. In addition, coal futures also reached unprecedented levels. The immediate and short-term electricity market tightness is being heightened by nuclear reactor availability in France, at nearly its lowest level in years. “Europe is now facing a parallel gas and power crisis; we’ve run out of adjectives to describe the pace of this price surge,” said gas and LNG consultancy firm, Timera Energy.

With gas shortages and soaring energy prices, and with winter approaching, we could very well see Europe fall into power rationing in the coming months, and the economic impacts on the already battling economy could be catastrophic.

DATA IN A NUTSHELL

The People’s Bank of China lowered its key loan prime rates (LPR) at its August rate fixing meeting, marking the second reduction this year, as the board stepped up efforts to breathe life into the country’s borrowing demand, amid repeated COVID-19 outbreaks and lingering property downturn. The one-year LPR, which it uses for corporate and household loans, was reduced by five basis points to a record-low of 3.65%, while the five-year LPR, which influences the pricing of home mortgages, was lowered for the second time this year by 15 basis points to 4.30%. The move came after the central bank, last week, unexpectedly trimmed the one-year medium-term lending facility rate and another short-term liquidity tool after July data highlighted that the Chinese economy was losing momentum amid slowing global growth.

The S&P Global Eurozone Composite PMI (purchasing managers index) dropped to 49.2 in August from 49.9 in July, beating market expectations of 49, according to flash estimates. The latest reading signalled a second consecutive reduction in business activity across the eurozone, following a 16-month period of growth. Production in the manufacturing sector declined for the third consecutive month, while the rate of expansion in the service sector was at its slowest since the sector returned to growth in April 2021. Although remaining elevated, there were again signs that inflationary pressures have passed their peak, with rates of increase in both input costs and output prices softening. Concerns over the economic outlook have led to business confidence remaining subdued.

In the United States (US), the S&P Global US Services PMI fell to 44.1 in August from 47.3 in July, signalling the sharpest contraction since May 2020, as interest rate hikes and inflation dampened customer spending. New orders contracted at their quickest pace in over two years and new business from abroad decreased at the second-fastest rate since December 2020.

South Africa’s unemployment rate unexpectedly dropped to 33.9% in the second quarter of 2022, down from 34.5% in the first quarter, and a record high of 35.3% in the fourth quarter of 2021. The country’s labour force has grown up by 780 000 to 23.556 million, with the number of unemployed persons having increased by 132 000 to 7.994 million, and the number of employed people rising by 648 000 to 15.562 million. In the various sectors, job gains were mainly observed in community and social services, followed by trade and finance. Manufacturing and transport however reported declines, amid disruptions caused by rolling blackouts and severe flooding in KwaZulu-Natal. The expanded definition of unemployment, including people who have stopped looking for work, was at 44.1%, down from 45.5% in the first quarter. The youth unemployment rate, measuring jobseekers between 15 and 24 years old, fell to 61.4% in the second quarter, its lowest level in almost two years.

Remaining in South Africa, the local composite leading business cycle indicator rose by 0.4% month-on-month in June, following a 0.7% decline in the previous month, as increases in five of the nine available component time series outweighed decreases in the remaining four. The largest positive contributors were an increase in the number of residential building plans approved and an acceleration in the six-month smoothed growth rate in new passenger vehicle sales. On the other side of the spectrum, the largest declines came from a narrowing of the interest rate spread and a decrease in the US dollar-denominated Export Commodity Price Index. Meanwhile, South Africa’s annual inflation rate accelerated to an over 13-year high of 7.8% in July, from 7.4% in June, above market expectations of 7.7% and the upper limit of the South African Reserve Bank’s target range of 3% to 6%.

STOCKS AWAIT GUIDANCE FROM POWELL

US stock futures were little changed on Thursday, as traders assessed a fresh batch of earnings reports and awaited the start of the Jackson Hole Economic Symposium later in the day. Futures contracts tied to the three major US indexes were all near breakeven. In extended trading, technology company, Nvidia, saw its share price tumble nearly 5% after missing estimates for the top and bottom lines, while cloud-based software company, Salesforce,  plunged 7% on weak third quarter and full-year guidance. The tech-heavy Nasdaq Composite also climbed 0.41%. Investors now look ahead to Jerome Powell’s, the US Federal Reserve (Fed) Chair, speech at the annual Central Bank event later today.

Contracts on the FTSE 100 Index Futures gained nearly 0.2% on Thursday, tracking its European and US peers higher, as the Jackson Hole Symposium kicked off on Thursday and with Powell due to provide more clues on the Fed’s next steps. Meanwhile, investors also digested corporate news and results with construction-product distributor, Grafton Group, seeing its revenues increasing as its profits fell, while global professional recruitment group, Hays, rewarded shareholders with a special dividend of 7.34 pence per share.

Stocks in Europe swung between red and green to trade marginally above the flatline on Thursday afternoon. The DAX was up nearly 0.4% and the STOXX 600 0.2%, assisted by the energy and healthcare sector, while retail stocks traded lower. Minutes from the last European Central Bank monetary policy account showed the Central Bank is set to continue on its path of hiking interest rates, as inflationary pressures continue to rise. On the corporate front, pharmaceutical company, Novartis, announced plans to spin off its generic unit, Sandoz, which would create the largest generic drugs company in Europe by sales.

The JSE FTSE All Share Index extended gains for the third straight session on Thursday, trading around the 70 450, its highest since 18 August, driven by commodity-linked stocks, financials and tech companies. Meanwhile, investors continued to assess the global economic outlook while awaiting direction on US interest rates by Jerome Powell. On the individual stocks front, mining group, Gold Fields, posted a jump of 29% in half-year profit, driven by higher metal prices and increased production. Conversely, platinum group metals miner, Sibanye Stillwater, reported a 50% slump in its half-year profit but raised its outlook for the rest of 2022 after operations at its gold mines in the country resumed.

TIGHT SUPPLY IN FOCUS

Brent crude futures climbed toward $102 per barrel on Thursday, rising for the third consecutive session to its highest level in three weeks, as signs of tightening-supply outlook countered fears of a demand erosion on the back of the global economic slowdown. Saudi Arabia floated the idea of potential output cuts by the expanded Organisation of the Petroleum Export Countries, OPEC+, earlier this week to deal with market volatility, while an OPEC source told Reuters that any cuts are likely to coincide with a return of Iranian oil to the market. Iran said it is reviewing a US response to the EU’s “final” text for the revival of the 2015 nuclear deal which could lead to a surge in oil exports from the Persian Gulf producer. Tehran will reportedly seek to replace Russian oil in Europe, while Moscow approached several Asian countries to explore long-term oil contracts at steep discounts. Elsewhere, damage at a Kazakhstan terminal may disrupt crude exports from the country for months.

Gold prices edged above $1 750 per ounce on Thursday, rising for the third straight session, amid an easing dollar, as investors assessed whether the Fed will move ahead with aggressive rate hikes in the face of a weakening economy. Markets are also factoring in hawkish remarks from other Fed officials who signalled commitment to the fight against inflation, with the recent rally in crucial commodities like oil and gas reinforcing the Central Bank’s aggressive stance.

Newcastle coal futures, the benchmark for top consuming region Asia, were trading above the $400-per-tonne mark and just shy of a record peak reached in early March, amid robust demand and persistent supply disruptions exacerbated by the war in Eastern Europe. The International Energy Agency sees coal consumption in Europe rising by 7% in 2022 on top of last year’s 14% surge, with the continent now turning to seaborne coal from South Africa, Indonesia, and even as far away as Australia, as it halts imports from Russia. Demand for coal in India, the world’s second-biggest coal importer behind China, is expected to rise almost 10% in 2022 as the country’s economy expands and electricity use increases. Markets were tight even before the Russian invasion, as soaring natural gas prices in Europe and Asia in late 2021 intensified gas-to-coal switching in many countries.

Natural gas futures linked to Dutch TTF Gas Futures, Europe’s wholesale gas price, was trading around €300 per megawatt hour, amid persistent supply fears. Russia’s Gazprom said it would cut flows through the Nord Stream pipeline to Germany for three days of maintenance at the end of August, exacerbating concerns about supplies and raising the risk of a recession if Russia’s natural gas squeeze widens.

EURO BELOW PARITY

The euro remained below $1 parity in the fourth week of August, its lowest level since late 2002, as recession fears in Europe re-emerged as a result of the deepening energy crisis in the region.

The US Dollar Index eased to around 108.3 on Thursday, pulling back from near 20-year highs, as traders avoided making big bets ahead of Jerome Powell’s speech at the Jackson Hole symposium.  Investors are also assessing whether the Fed will move ahead with its aggressive plan to manage inflation, as recent weakness in US economic data complicated the picture. Markets are now pricing in a 60% chance of a 75 basis point rate hike in September.

The British pound weakened past $1.18, hitting its lowest level since March 2020, as the outlook of soaring inflation threatened to hurt the pound’s purchasing power and further hurt the British economy. Citi Bank economists forecasted inflation will surge to 18.6% by the start of 2023 due to soaring wholesale gas prices, supported by expectations that the country’s retail energy price cap could reach £5 816 by April, compared to £1 971 currently.

The offshore yuan weakened to around ¥6.88 against the greenback, languishing at its lowest levels in two years, weighed down by China’s struggling economy and divergent monetary policy. China’s economy remains under pressure from its zero-COVID strategy, property-sector woes, and power shortages in manufacturing hubs, as well as weakening external demand that threatens the country’s export-heavy industries. This contrasted sharply with other major central banks which are set to raise interest rates further to combat high inflation, raising the risk of accelerated capital outflows in China and further yuan depreciation.

The South African rand was trading around the R17.00/$ mark for most of the week, close to levels last seen in late July, amid the general dollar strength on expectations the Fed will continue its aggressive tightening path until inflation is under control. The rand did gain back some ground during overnight trade and profit taking on Wednesday. Following the release of yet another 13-year high inflation reading, the South African Reserve Bank is expected to remain on an interest rate hiking trajectory to counter the rise in living costs. 

The rand is trading at R16.77/$, R16.72/€ and R19.81/£.