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This Government U-Turn Is Good News For BG Group Plc (But Bad For Your Pocket)

In something of a volte-face, Energy minister Michael Fallon has ruled out subsidising the building of more gas storage facilities. That’s despite the country coming within six hours of running out of gas last March, risking 1970s-style energy rationing and power cuts. On average, the UK has about two weeks’ worth of gas in storage compared to more than two months’ worth in many European countries, meaning any disruption to supply rapidly becomes critical.

Buy low, sell high

The economics of gas storage works by operators building up stocks of cheaper gas in summertime to sell the next winter. But in recent years, the differential in prices hasn’t been enough to stimulate new investment.  Centrica (LSE: CNA) (NASDAQOTH: CPYYY.US), which owns 70% of the UK’s storage capacity, has been holding off a £1.4bn project in hope of a subsidy.

Mr Fallon says subsidies are unnecessary and the market will provide a solution. That suggests there will only be more gas storage — and energy security — when there’s more volatility in prices between summer and winter. As most consumption is in the winter, energy users’ gas bills will have to rise first. I guess the government hopes consumers will blame energy companies.

Good for some

At least it’s good news for BG Group (LSE: BG) (NASDAQOTH:BRGYY.US). Its integrated liquefied natural gas (LNG) business delivers cargoes wherever in the world prices are highest. One reason for last winter’s squeeze was that fewer LNG cargoes had arrived in Britain, as prices were higher in Asia.  A couple of tankers were diverted here after technical problems with the interconnector pipeline from Belgium caused spot gas prices to rocket by 50%. Just-in-time logistics means bigger bills, and bigger profits for suppliers!

BG’s shares have clawed most of their way back after last October’s profit warning knocked them down 20%. The LNG business is a relatively safe cash generator alongside BG’s riskier developments in Brazil’s offshore oil and gas fields. A third of operating profits come from shipping and marketing LNG. Fortunately, investors haven’t been unsettled by developments in Egypt, which accounts for a fifth of BG’s production.

The decision isn’t too bad for Centrica, since it’s also playing the LNG import game. In March’s it signed a 20-year agreement for 90 billion cubic feet of LNG a year (enough for 2m homes) from Louisiana, which it can have delivered anywhere in the world. The purchase price is based on the US ‘Henry Hub’ index so arbitraging low US gas prices and high European/global prices.

Inflation

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> Tony owns shares in BG Group and Centrica.