Domestic demand for natural gas is seen rising 12-14% next fiscal, despite prices remaining high for the past several months because of economic recovery and lower-than-usual inventories in key European consumption centres.

Russia’s invasion of Ukraine, which began in February 2022, drove already-elevated gas prices even higher. Russia accounts for 17% of global gas output, and its pipeline via Ukraine caters to more than a third of European gas demand.

The heightened supply uncertainty because of the ongoing conflict and Europe’s intensifying efforts to reduce dependence on Russian gas by importing more LNG will keep gas prices high at least in the near term. Already, US spot gas prices are 50% above the long-term average and long-term liquefied natural gas (LNG) contracts, benchmarked to crude oil, are 30-40% higher than usual, while Asian spot LNG is above $30 per mmbtu (metric million British thermal unit), which is more than 4 times the past seven-year average.

India will feel the heat, too, as domestically produced gas, which meets half of the total gas demand, is linked to prices at international gas trading hubs. The balance demand is met by term and spot LNG imports.

Says Naveen Vaidyanathan, Director, CRISIL Ratings, “The impact of higher global gas prices is not yet reflected in the domestic prices, and will only be visible from April 2022. This is because the domestic gas price is determined and fixed biannually using the Administered Pricing Mechanism. This is based on average international gas prices in the preceding 12-months, and calculated with a lag of one quarter. The price of domestically produced gas is expected to average $6 per mmBtu next fiscal ― around 2.5 times the average price of $2.3 this fiscal.”

While the price of LNG is expected to moderate from current highs, it will still be more than the average seen this fiscal.

Prices of LNG imported on long-term contract basis are expected to rise ~20% to $11-12 per mmBtu on average next fiscal, as these are based on prevailing crude oil prices, which is expected to stay elevated.

LNG imported on a spot basis caters to just 10-15% of demand. As these imports are most sensitive to prices, their proportion in overall gas demand will likely reduce.

Healthy growth in downstream sectors, particularly the city gas distribution (CGD) and fertilisers ― together accounting for almost half of domestic gas consumption ― will drive growth in domestic gas demand next fiscal, despite the high prices. Demand has already reached the pre-pandemic level this fiscal.

Demand from CGD segment will be driven by increasing compressed natural gas (CNG) and piped natural gas (PNG) penetration. CNG stations are expected to increase to ~5,000 next fiscal from ~3,700 at present, and domestic PNG connections to 1 crore from 85 lakh as of November 2021.

Demand from the fertiliser sector, already largely insulated because of the government subsidy to ensure cost pass-through for manufacturers, will be further supported by capacity ramp-up (5 MTPA added this fiscal on a base of 26 MTPA) and conversion of some existing capacity from naphtha to natural gas as a feedstock. Other downstream sectors such as refining and petrochemicals will also exhibit healthy increase in demand after muted growth this fiscal.

Says Ankit Kedia, Associate Director, CRISIL Ratings, “The double-digit growth in gas demand will also be supported by continued competitiveness of gas against substitute fuels. While gas prices have increased, so have crude oil prices. Hence, gas will remain 5-40% cheaper compared with substitutes such as petrol, diesel, LPG, furnace oil and naphtha.”

To be sure, the high prices will weigh on gas consumption by downstream sectors, but higher sales volume and headroom to pass on increase in input costs will help sustain the cash flows of downstream players. That, along with strong balance sheets, will keep credit profiles largely stable.

If LNG prices remain high beyond the first half of next fiscal, it will create a potential downside risk to our demand forecast. Continued priority allocation of domestic gas to the CGD segment and enhanced budgetary support to fertiliser companies will be critical for their credit profiles.