OK: We started discussing the European energy crisis a year ago. So that was a long way ahead of the invasion of Ukraine in late February. So the energy crisis started building in the late summer of 2021 in Europe. We saw that the inventories hadn’t been built up, and at that time, the Asians were also busy buying LNG and resulting in the LNG prices spiking up, and the Russians hadn’t built up those storage levels in Europe, and now we understand the reason why they didn’t do it. In November, the gas market ended up in a crisis a couple of months before the invasion.

OK: Once you had the invasion, things went ballistic. Despite all these problems, Europe’s been very fortunate because we have had a lack of gas in Europe or globally, but with the shutdowns in China, they have been pulling back. Imports are down more than 20%. So if somebody told you that Europe would gobble up all the LNG cargo and China would slow down 20%, you would think that the shipping market would be terrible, and we saw something very similar in 2019. In 2019, we had a very healthy volume in the LNG market. It grew 35 million tons, and Europe bought 33 of that 35 million tons, and that dragged down the shipping market in 2019 because you had shorter selling distances, and China’s economy cooled down in 2019, given the trade war with Trump.

OK: This year, we have seen something similar, volume growth has been a lot less, and the Chinese demand has forted much more than we have ever seen, resulting in the LNG shipping market being tangible in Q1. The first time we’ve seen the indexes, the freight indexes being negative. So people didn’t pay you. The rates were less than zero or adjusted for fuel consumption, but the risk premium in the market increased once the Ukraine war happened. People didn’t want to be short-chips. So freight ways started to go up after February 24, and they went up a lot until another event happened, which was the Freeport explosion. At that time, gas prices in the US were becoming very expensive, $10 a million MMBtu – sounds cheap in Europe, but in the US, it’s quite expensive.

OK: People were asking about export limitations, and once that explosion happened in Freeport, US gas prices fell 20% overnight. This also made the shipping market weak because Freeport is a big export terminal – 15 million tons, that’s 15 to 18 cargos a month. So suddenly, you have a lot of ships coming open in the market and dragged down the shipping market, and then with Freeport seeming to be starting to ship some cargos again, at least partially, that’s blown up the spot market again. You mentioned $200,000 per day, but it’s more like $400,000. It’s the strongest freight market ever, but when you look at the product side, the prices have decreased significantly. For JKM, for example, their focus now is on the TTF.

OK: So TTF, it’s so volatile, so it’s hard to peg the number, but let’s call it $45. So that’s down from a hundred at the peak. However, with this cargo flow into Europe, you have congestion issues. There’s not enough re-gas capacity in Europe. So having a slot at the re-gas terminal today is valued as much as the terminal. The cargo is $45 per million BTU, but you have to discount the LNG at around $20 – $25 to get capacity at the re-gas terminal. That’s crazy! In addition, we have an intramonth contango of $2 to $3. So if I can sell my cargo next month, I will make more money. Today we have around 35 ships idling and floating storage, which is also tying up a lot of shipping capacity, and that’s why the shipping market’s been just like the LNG market incredibly volatile.

OK: Our principal shareholder, John Fredriksen, who’s probably the most successful shipping investor ever. Shipping is incredibly difficult to invest in because of the volatility. So if you do something wrong, it’s easy to get bankrupt, but he’s been doing this for more than 60 years now, and he founded Golar LNG in 2000. He sold Golar in 2014 and then bought into Flex and all kinds of investment pieces to buy many new ships because there’s been a big revolution on the shipping side. Until 15 years ago, all the new buildings were steam turbines. So, anybody who has some history knows that a steam turbine is not very efficient, but the ships were built with steam turbine engines, and there are still 200 of them in the market.

OK: And then we eventually ended up with these legends, first medium speed, and no slow speed. So Otis, when we made the investments mostly in 2017/18, there’s on new ships, they are 60% more efficient than the steam turbine ships, and that’s a lot of money, you’re saving 60%. So we bought the ships when prices were low, basically $180 – $185 million per ship. The price of a ship today is $250 million. So there’s undoubtedly been inflation also on the shipping side because shipping is tight. Then when we took delivery of the ships starting in 2018, 2019, and 2021, we took our last ships for delivery. We thought that we would play the spot market here until we find a good shipping market, and then we will start fixing the ships on attractive long-term charters. So until 14th April last year, we had 13 ships and turfed in spot ships.

OK: So everything was the spot, and that meant that you have to be on top of the market because of the volatility and because you could quickly lose a lot of money. Even though COVID in 2020, we managed to navigate and make money, and starting April 14, we started fixing our ships on long-term charters. We did the first five with Cheniere, a big US export, and then in June this year, we fixed our last three ships, one ship for ten years and two for each for seven years with our super major. So it’s a lot less volatile than it used to be. We have one ship on index linked to the spot market, but the remaining twelve ships are typically fixed on 3 to 10-year charters with the big players. So volatility in all income has gone down quite a lot right now, maybe sadly, because it would be fantastic to have more spot exposure in this market.

OK: Five years ago, a lot of people were very bullish on energy because you basically should substitute coal with natural gas, and you can reduce your CO2 emissions by 50% -60 %. But a hundred years ago, the US started replacing coal with natural gas because of the pollution, not the CO2 emissions. When you burn coal, you have all the smog, ash, and soot, which is destroying cities. And then, later on, we had the same development in Europe, not driven by CO2 but by cleaning up the local air pollution, which was a huge problem. Every year 10 million people die prematurely because of bad air pollution. Coal is a big problem today as well because most people dying today from air pollution are people living in China and India, and they are the big coal consumers.

OK: We have had a policy in Europe that has been populistic, short-term, and narrow tinkling. The policy was about the action that we are going from coal to wind and solar. But wind and solar are intermittent, and we will not have nuclear-based energy either. So then, what kind of energy system will you create then? You can’t build a lot of batteries for big energy systems. They just sidestepped natural gas and went directly for intermittent renewables, creating many problems. Dunkelflaute is a word that has become common now, it is a German world where it’s not that much wind, and there’s not that much sun, and we had problems last year when the wind conditions in the UK were very low as well.

OK: People realize now with the war in Ukraine, you need gas. The lack of gas is creating a lot of problems. So now Europe is rushing to LNG as the substitute. Even Germany, the biggest gas consumer in Europe, is currently building out 5-6 floating terminals to import LNG; people are building import terminals in Italy, France, and the Netherlands. But the problem is that even though we are building all these import terminals in Europe, we are not buying more LNG. The strategy is to make import terminals and buy LNG in the spot market, driving up prices and resulting in countries like India, Pakistan, and Bangladesh not being able to source it anymore.

OK: When you are sourcing from the spot market, you’re not underpinning new suppliers of LNG because nobody is building LNG export terminals on speculation. These are multi-billion dollars investments. The only way to build them is to have long-term contracts, 10, 15, maybe 20 years. But Europe is reluctant to do that because of the incoherent energy policies. If we try to solve this problem right now, buying in a spot market, but I’m not going to sign up for a 20-year LNG off-day contract because, in 2042, I need to be 100% renewable. So that is creating problems, and so we haven’t solved anything. We will solve some bottlenecks on the re-gas capacity side, but we are not solving the problem, which is the gas supply.

OK: No. Europe has now been able to know fill-up storage at 90%. That has happened because Russia has been flowing gas until recently, and Europe has been buying up all the LNG; more than 70% of the US cargo went to Europe. In comparison, last year, it was like 20-25%. Usually, 70-80% of US cargo are going to Asia, and now 70-80% is going to Europe. China has stopped importing because of they’re the COVID lockdowns. Those COVID lockdowns are not going to last forever. Once they’re opening up, and they’re opening up gradually, China is going to import more of the cargo. In Europe, we are 90% storage capacity; we are going to draw down this very quickly, and once you’re getting close to 30%, people will start panicking, and we’ve been lucky with the weather in October.

OK: The prognosis is that we will not be as lucky in November and December. We have managed to get to 90% by also destroying a lot of demand in the industrial base because prices have been too high; next year will be more challenging because you cannot rely on as much flow from Russia and also sourcing as much LNG as Europe has been doing this year, next year might be more challenging because the Chinese might be back buying more volumes as well. There’s not a lot of new LNG coming to the market next year. So the supply of new LNG to the market will be permuted both 2023/24/25 onwards; you will see more pick up, especially from Qatar and other players, but that LNG has been contracted to other people and not to Europe because Europe is not signing up and not taking agreements. Germany has signed up one LNG contract this year, which was also pretty small.

OK: Yes, we do see that. We see a lot more cargo flowing into Europe, which has benefited crew rotation. Many Asian countries still have limitations on getting people off and off on the ship’s specs. China has been impossible for more than two years now. So, at least, the ships sailing to Europe make a crew rotation much easier. We also see a lot more ships idling, either idling in floating storage or the ships are just idling in, which you would think is incredible when freight rates are $400,000; why aren’t people renting out the ship? Collecting a lot of freight instead of idling the ship, but the reason is the value of the cargo is so substantial that even if you could make a lot of money, what if you don’t get your ship back in time?

OK: You are losing out on the cargo economics, which is much more. So yes, we see it is affecting the routes, and the ton-mile has dragged on a lot this year. So if you looked at the ton mileage sailing distances, you would think that the freight market would be terrible this year. But the thing that has adjusted for it is the ton time, so the time’s gone up, speed’s gone down, and that means that it takes more time to load and discharge a cargo than usual because of the congestion issues and the floating storage.

OK: That’s right, you need to keep it at -162 Centigrade, which is -260 Fahrenheit, and then to keep it at atmospheric pressure, you need to vent out the boil of gas, and the boil depends on the ship. Newer ships are a lot better insulation. So if you have an old steam turbine, the boil rate is typically 0.2%. So every day, 0.2% of the cargo is lost in evaporation. So you need to take that pressure out of the tank; otherwise, it builds up. But you’re not venting it; you’re burning it, so you are using it as fuel. So it’s very handy to have fuel on the cargo tanks. Newer ships today will have a boil-off rate of around 0.05 to 0.85%.

OK: So the boil has been reduced 50% to 80%, and some of them also have a relic system, so you can take the boil off that’s coming off the tank and re-liquefy it and put it back to the tank. Of course, it consumes some power, but that’s feasible. We have a partial leak system on four ships and a full relic on three of them, making it a bit handier to store them. But as you said, it’s not like crude oil, where you can sit for a long time. So floating storage tends to be shorter, typically one or two months. It’s very rarely you see ships idling with cargo for more than two months. You need to flare the boil off in the funnel because you don’t want to vent it, so you then are just flaring it, which is wasteful, or you need to use power to reliquify it. So that is an economic hurdle of having longer storage time.

OK: That’s a good question. Talking about the LNG spot market that developed in another crisis, which happened 11 years ago, which was Fukushima, there was no spot market for LNG until Fukushima hit Japan. Then certainly, with all the nukes storm, they had a shortage, creating the LNG spot market. It was a bit different today because it was a portfolio player rebalancing the supply and pushing more LNG into Japan. So 11 years later, there is another crisis, the war in Ukraine, that is changing the spot market of LNG where Europe is coming in. The people in Brussels think very short term; that’s the problem. Where I reside is one of the biggest gas exporters in the world. The oil companies had long-term contracts linked to oil at a discount with Europe.

OK: So typically, the Asians are buying today; there’s not an LNG crisis in Japan, China, or South Korea because all the supply is linked to oil with a discount of 20-25%. In Europe today, we pay close to $200 per barrel of oil equivalent; in Asia, they are paying $70. So we had these contracts in Europe as well, and then the European Commission said this is on the competition, and they forced a breakup of existing contracts because they wanted to have a spot price on all the contracts. Europe saved a lot of money for ten years on this because the spot price was much lower than what the oil price index would have made, especially during COVID in 2020, the price of LNG in Europe or TTF gas was breaking below $1 per million BTU, which is equivalent to $6 per barrel of oil. This year has gone up to more than $100.

OK: And now they are saying they want to have price caps and renegotiate contracts. This is not a way to have a policy and a kind of predictability for the actors in the industry to invest. If policies are changing, depending on market developments all the time, how are you going to invest if you’re going to invest in an LNG export plan today, you need to have a horizon of 25 years. You probably need to set aside five years to develop, finance, and get the project going, and then you need at least 20 years to sell cargo for this economics to work, but then if you have these policy changes all the time, how are you going cope with it? That’s the problem in Europe; you have to be a bit more longer term, but then if you’re saying that everything’s going to be carbon neutral in 2050. I understand that utilities are not signing up on new contracts, and then there will not be more supply.

OK: So, who is going to sign up on those contracts? Are we leaving it only to Shell, BP, and Exxon? They are taking the risk that Europe will rely on buying the spot’s market cargo, which could very well be, but you are not incentivizing many new projects by doing it this way. Now, given the situation, Europe should be going to the US and signing up 20 million tons, signing up 20 million tons from Qatar, maybe 10 million tons from some of the African exporters, and doing even more because the Russian flows that we are replacing are huge.

OK: Yeah, even with LNG imposed down 20% plus in China this year, last 18 months of the 100 million tons of new SPAs, China has done 50% of it. So they are certainly signing up a lot of new contacts, and they have been doing well on that. They signed up a lot of contracts after the trade war with the US, and they have been reselling those cargoes into Europe because the beauty of the US cargo is there is full destination flexibility. So Chinese who buy those at Henry Hub plus $3, even if Henry Hub is $8, $11 full price, can sell those cargoes into Europe at $30, $40, whatever the price is. So they’re making a fortune on it, but they are thinking 20-25 years; they’re not focused on thinking today all the time.

OK: Yes, Shell, Exxon and Chevron, and some of the trading houses like Trafigura and Ganvor are doing it because they see that the European buyers need gas, but they are not willing to sign up for these long contracts. So they are buying a portfolio of contracts, and then this is a bit more like the oil place; Germany is not signing up 5 million barrels of oil from some countries. It’s market participants doing it. So I’m not saying that the government should intervene to do it, but the problem is their policies and the signals to the market actors are resulting in them not signing up on something because they don’t know whether there will be a mark the 10 years’ time, so kind of the problem for the government or the policymakers in Europe is more lot of ambiguity and uncertainty they are creating.

OK: They are pushing the bill to somebody else. But then, for instance, if you are developing a gas field head in Norway and, usually, almost everything has gone to pipe to Europe because it’s very close to the only LNG export plant in Norway. It’s very far in the north, where the pipeline would be very long. Let’s say you are investing in new projects today. Would you rather build the LNG plant instead of a pipeline? Probably yes, because you don’t know if the price goes up, and Europe wants to cap the price. So it’s going to be good for me because I am in the LNG business. Rather than building pipelines, they build LNG plants; it’s not really the right policy if you have a gas field shore to the market – the pipeline is the most efficient, but European politicians could very well undermine that by talking about these price caps.

OK: This new billing price has gone from $180 to $250, and the order book is more than 40% of the fleet, and then that should worry any shipping investors, including myself. There are a couple of reasons for this. For one thing, there are a lot of new projects Qatar has today our nameplate capacity of export of 77 million tons per year. In the first stage, they’re not going to increase it by 33 million tons and then maybe add 16 tons on top of that. So Qatar is probably going to order a hundred ships altogether. Then you have some new projects in the US especially Venture Global LNG and Genia, which are pushing forward new projects. So there are a lot of new projects. Of course, it’s not enough. Europe can’t replace all Russian gas just with renewables.

OK: They need to replace most of it with gas. But now, in Europe, we replace it with spot LNG and a lot of coal which is the opposite of what we were planning, so we need a lot of new ships for new projects. We have seen a lot of investment on the shipping side, but mostly all of those ships are built towards our new contract, so not on speculation. The problem is that if you’re doing this multibillion-dollar project, you need to have contract coverage for 70 – 90% of the volumes; otherwise, it’s too risky to give it the green light. And when you have the player that should be signing up the most contracts – Europe, and they are not doing it, that makes you reliant on the super majors and the traders signing up. Europe should probably be signing up $50 – $80 million tons of LNG, and so far, they haven’t done that. And that’s what is holding back investment. With this kind of huge challenge, you have to replace pipeline gas from Russia with LNG and get rid of coal in Europe; then, investments should be bigger.

OK: For all businesses to transport LNG to the market, which is willing to pay the highest price. Of course, we are not instructing our ships where to go. Every fixture in LNG is a time charter. So the guy renting the ship will instruct where to load the cargo and where to discharge, and this is up to market forces, which it should be. What we are delivering is the most efficient LNG ships. So ships built between 2008 and 2021 are the most efficient with the most modern diesel engines. That resulted in an efficiency increase of 60% compared to the older ships. So, that is all part of the value change, and we have built all our ships on speculation; we haven’t built them to contracts. In our considerations, we thought, these are good ships, and prices are good, let’s invest $2.5 billion in these ships, and let’s see if we can fix them out.

OK: It usually takes three years to build an LNG ship. Now, the lead time is more like four and a half years. I listened to one of your podcasts recently, which was with Jeff Currie in Goldman Sachs, which I’ve talked to in the past, and he has a very good point because we have this inflation; yesterday, USCPI numbers were still above 8%. So inflation is high, and as today as back in the 70s, it is driven a lot by energy. People thought the energy was irrelevant; it was a small part of GDP. Energy companies in the SNP index went from 15% of the market down to 3%. So a kind of energy was this dinosaur, an old industry that nobody taught much about.

OK: Now, with energy prices coming up, we see how important energy is and having the reliability of supply and affordability. When inflation came down by Paul Walkers, Jeff questioned whether it was Paul Walker who did it or if it was the CapEx boom in the oil industry after oil prices took off after the OPEC crisis in the 70s. We are at exactly the same point today; we have high inflation because of high energy prices, especially in Europe when it comes to gas, and how will we drive down inflation? It’s a CapEx boom in LNG! So that’s what you have to create. I don’t think people in Europe are willing to start doing shale. They are unwilling to take out more gas from the running and gas fields because house owners don’t like it.

OK: If you don’t want to use that gas resource, you need LNG. So you need a CapEx boom in LNG, much bigger than we are seeing today. We are seeing quite rapid growth on the LNG upstream part. I mentioned there are a lot of ships for construction, but it’s not big enough because the challenge we are facing is much bigger than people realize. We’re trying not to patch it up with some gas subsidy caps, but this is a much bigger problem. We have to start thinking 10, 15, or 20 years, and then we need more LNG, but also the LNG industry also needs to begin to decarbonize. CO2 emissions by replacing coal with natural gas by 50-60%, but there’s a big problem, and it’s the methane emissions; they will need to be reduced to close to zero.

OK: People say it’s difficult, but it’s possible; Equino has reduced methane to virtually nothing in their value change. I think you should have a price on methane as well, so getting methane emissions down and then also on the upstream part, how you electrify it to bring down emissions. Every upstream project today has to start thinking about CO2 capture. So you are capturing the CO2 during that process. And then we also need to start thinking about CO2 capture when burning natural gas because if you manage to do that, you have basically made CH4, which is methane, into hydrogen. So you have been able then to create hydrogen much easier than burning hydrogen because that’s a complex and inefficient process. Overall, I think we are happy to invest in that story. But right now, with the LNG new billing prices at $250 and all the ambiguity about policy, we are sitting on the fence like many other people in the industry.