Energy prices decline as geopolitical and regulatory uncertainty heightens

Forecasts of milder weather and rising geopolitical uncertainty, which prompted expectations of a weaker macroeconomic outlook and speculation of increased fuel supplies, pressured European energy prices over the past month. Despite this downward price trend, however, February also saw price hikes and bullish factors, such as lower than normal wind power generation.

In the power sector, several fundamental drivers indicated bullish trends, suggesting potential increases in power prices. Temperature conditions hovered around seasonal norms but were significantly colder than the past two years, particularly in markets like Germany, where recorded temperatures were 5 degrees lower than last year. Additionally, wind power generation demonstrated its intermittent nature, with production in the CWE region dropping roughly 17 GW below the seasonal average. Low levels of precipitation weakened the hydrological balance in the Alpine region and Southeastern Europe, further contributing to the bullish fundamental drivers. These factors kept coal-fired power plants operating at full capacity for most of the month, with hard coal generation in Europe surging by 40 per cent year-on-year. 

However, lower fuel and carbon prices during February effectively offset all these bullish factors, driving the majority of European power future contracts downwards. In the gas market, high demand led to robust stock withdrawals, while pipeline imports remained weak as production issues limited Azeri gas flows and the Ukraine transit agreement expired, forcing Russian gas through Turkstream, the sole remaining pipeline route. Despite these challenges, strong LNG arrivals in Europe (thanks to earlier high prices and a fairly mild winter in East Asia) partially mitigated these effects, keeping European gas inventories just below 39 per cent capacity. In addition, speculation of a ceasefire deal in Ukraine that could boost gas supplies to Europe, alongside a potential relaxation of European gas storage targets, exerted downward pressure on gas prices. Meanwhile, despite strong coal-fired power generation in Europe, lower coal prices contributed to the bearish market sentiment, as Chinese and Indian coal producers increased domestic production and boosted their inventories, signalling an oversupply in the coal market. 

Overall, gas prices remained above the threshold for coal-to-gas fuel switching, thereby favouring coal-fired power plants in the power merit-order curve and helping to preserve already low European gas stocks from further depletion. Although such situations typically support higher carbon prices, a decrease in the net long positions of investment funds – with a strong correlation between gas prices and EU Allowances (EUAs) – prompted a downward trend in carbon price allowances. 

On the energy policy front, the European Commission recently proposed an extension of its gas storage regulation until the end of 2027 to improve energy security in the coming years. Additionally, last week saw the unveiling of the EU’s Clean Industrial Deal, an initiative designed to improve the competitiveness of European industries while guiding them towards greater decarbonisation. Meanwhile, US President Trump has escalated his aggressive tariff policy, imposing 20 per cent tariffs on China and 25 per cent on Mexico and Canada which, along with retaliatory tariffs, raises serious concerns about a potential global economic slowdown.

Looking ahead to March, the balance in the gas markets is expected to soften, with strong European LNG imports driven by lower ‘shoulder month’ demand in Asia and high US LNG supplies. This indicates a decline in energy prices. However, as February demonstrated, the influence of policy is currently very intense and presents serious challenges for energy producers, traders and consumers alike.

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