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It’s Time to Play the “Gazprom Card”

by | published August 29th, 2014

As the situation in Ukraine continues to unravel, the West is certain to develop another round of sanctions against Russia.

Unlike the first set, these new sanctions will almost certainly have a more direct bearing on the energy sector.

And now that Russian gas behemoth Gazprom (OTC: OGZPY) has once again threatened to cut off the gas supply to Ukraine if Kiev doesn’t pay what it owes, worry has begun to creep into the European Union headquarters in Brussels.

Cutting off the gas to Ukraine will have a knock on effect, disrupting pass through deliveries to the rest of Europe. That wasn’t a big problem in June… but now it’s almost September.

Unlike the low demand period in which the crisis has been moving through thus far, natural gas storage in advance of winter becomes the main objective as the season moves later into the fall.

And Europeans remember all too clearly two weeks of freezing during a dreadful winter in 2009, the last time Russian gas was interrupted crossing Ukraine.

The key to avoiding this impending crisis is the way the West decides to deal with Gazprom…

Here’s why.

Gazprom is the largest single contributor to the Russian central budget. Curbing Gazprom’s ability to sell its gas would be a direct and heavy sanction, creating an immediate economic consequence to the Kremlin.

In fact, consensus is forming among my policy contacts that the latest Russian direct incursion into Southeastern Ukraine requires a heavier response, and Gazprom is now in the crosshairs.

However, any frontal attack preventing Gazprom’s current sales to Europe would both impair the obligation of existing contracts and create some significant hardships for both European countries and energy companies.

And that brings us back to a recommendation I made several months ago.

Putting Gazprom in the Line of Fire

As of this morning, Washington will almost certainly extend sanctions against a widening number of Russian armament exporters. It will also place further restrictions on access to western capital by Gazprombank (Gazprom’s financial institution, which is also a top five Russian commercial bank in its own right), VEB (a primary banking channel for Russian export finance), and other Russian banks.

This will be achieved by limiting or cutting their access to dollar-denominated bank exchanges internationally. In concert, the EU will put greater weight on similar sanctions.

Yet, in addition to these banking-related sanctions we may see the first sanctions against Gazprom operations. This is the point I made in discussions more than a month ago, and it will have to traverse a veritable political mine field to occur.

But the pressure to act is growing and the possibility of genuine sanctions – short of military intervention – are becoming fewer and fewer.

Of course, the West has already been successful in prompting Bulgaria to have a change of heart on the South Stream pipeline. (I discussed that move earlier in OEI : The West Has Gazprom in its Crosshairs). South Stream is an essential conduit for additional Russian gas moving into Europe, and Bulgaria is the lynchpin of that throughput.

But an even better approach promises to seriously impact Gazprom’s more immediate needs.

Targeting the 800 lb. Gorilla

The plan calls for an initial round of sanctions against Gazprom Marketing & Trading (GM&T), Gazprom’s main avenue for financing exports. These sanctions would limit GM&T’s access to financing only existing contracts, not new ones.

This could be applied immediately against the GM&T office in Houston. The main location is in London (20 Triton Street), a location I’ve been to several times in the past. Others are in Manchester, Paris, Singapore, and Zug (Switzerland).

In this case, both the UK and France would support the move, since it does not impair existing delivery contracts. Those contracts are multi-year, usually spanning two decades, and require the pre-financing of each monthly delivery. Under this plan, those would continue.

But direct pressure could now be directed toward Russia’s Achilles heel – Gazprom – or what I have previously referred to as “the 800 pound gorilla in the room.”

The intent of these sanctions is to hurt Moscow financially, not destroy Gazprom. But the inability of its international trading arm (GM&T) to access working capital puts several major projects in jeopardy — including the building of the ground breaking new Chinese pipeline.

That pipeline project was the “big news” several months ago. But they have yet to finalize how much it will cost (or for that matter what the gas pricing will be or even how that price will be determined).

Here is the most important point to remember in all of this: Moscow must sell additional gas abroad, otherwise its budget will collapse. To do that Gazprom must have the ability to operate freely.

Simply maintaining the current contract volumes is not enough. Sanctioning GM&T hits Russia where it hurts most economically, while it insulates current European import agreements from attack.

Of course, it is true that other GM&T offices internationally could pick up some of the slack, especially via Singapore with Chinese assistance. But this would still make the process considerably more expensive.

The sanctions would still prevent Gazprom from having access to dollar-denominated banking internationally when it comes to financing for new projects.

Remember, the gas trade (like oil) is denominated in dollars globally. It’s possible to bypass that with other currencies, but it cost more. Just ask the Iranians.

So as the Ukrainian situation intensifies (once again), one factor is becoming more obvious.

Putting the screws to Gazprom is no longer off the table.

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  1. Arnold U
    August 29th, 2014 at 17:23 | #1

    What you say makes a lot of sense. At approx. what price do you
    recommend buying Gazprom stock and when?
    just after the sanctions are put into place or to wait a while after that?
    Do you recommend buying it in increments over a short period of time?
    e.g. 1/3, 1/3, 1/3 to see how the trading pattern goes?
    Please let me know what you would recommend?
    I am not a day trader but have a few million dollars invested in the stock market and work on my portfolio daily myself.
    Thank you very much.
    Arnold

  2. Bob
    August 29th, 2014 at 18:09 | #2

    I suspect that Gazprom will have little difficulty in financing its exports. Recall that China advanced Rosneft $25 billion, accepting Chinese currency in exchange for oil deliveries. It is important to remember the oil and gas, like gold, can be used as currency or as collateral for loans.

  3. Robert in Canada
    August 29th, 2014 at 19:02 | #3

    So if Obama could get enough courage to stand up to the enviro-nuts, he could fast track Keystone pipeline and LNG exports to Europe and China.

    That would stop Putin’s military invasions and force him to deal with his neighbours and the west in a more business-like way.

    But since Obama completely agrees with the enviro-nuts, none of the above will happen.

    So Putin will keep invading other countries and giving the middle finger to anyone who objects. Heil Putin!

  4. john j van leenen
    August 29th, 2014 at 20:32 | #4

    PUTIN WILL NOT RESPOND TO ANY SANCTIONS.HE ONLY CARES ABOUT HIMSELF.IF NECESSARY, HE WILL CUT ALL SUPPLIES TO EUROPE. TO PREVENT THAT THE US HAS TO MAKE ARRANGEMTS IN ADVANCE WIH OIL COMPANIES IN THE US,CANADA AND AROUND THE WORLD.WITH SANCTIONS AGAINST GAZPROM, I WOULD NOT BE SURPRISED IF PUTIN SENDS HIS ARMY INTO ALL OF THE UKRAINE!

  5. Warren Hubbard
    August 29th, 2014 at 21:08 | #5

    Why should Americans care if Russia invades Ukraine. I dont care, let Putin have it, gas continues to Western Europe and we all live with each other in peace. The Ukrane learns to live with some rules for a change. Isnt it know that Ukrane is mess and is corrupt beyond reason. Maybe Putin can get it straight, hell they are all
    Russians anyway by heritage. What do I know im just one of the mass.

  6. Paula Kidd
    August 29th, 2014 at 21:54 | #6

    I have mentioned in recent emails to Stephen Harper, our Prime Minister and also Joe Oliver , finance min and justice minister Steven Blaney that we should have had NATO in the Ukraine to head this off , now is a must. We need to do a Kruschev moment, and he needs to call an emergensy meeting or Hitler/Putin will think he can just keep going. \\\\\i know that Stephen feels the same way, but now is the time for action.

  7. W.L. Williams
    August 30th, 2014 at 06:31 | #7

    Dear Sir:
    Overall the actions by the United States (and subsequently the EU) are aimed at isolating Russia and destroying its economy. There have been 5 accusations of Russian invasions of Ukraine. None have been proven. The Malaysian airliner was probably shot down by a Ukrainian fighter which was flying close to it. Russia was blamed but the black box findings have never been released.
    This is a massive propaganda campaign based on the neo-cons’ breaking their word to Russia in 1991 not to extend NATO beyond Berlin and into their sphere of influence. The Cuban missile crisis all over again.
    If Ukraine does not pay their $4B bill for natural gas, what should Russia and Gazprom do? The EU wanted this failed state of Ukraine so let them pay for its gas and be done with it.
    People like you want nothing but to re-start the cold war when we should be partnering with Russia to stop advances of extreme jihadist Islam. W.L. Williams

  8. Michael Hullevad
    August 31st, 2014 at 07:54 | #8

    I fully agree with Your findings! One other thing to do for Ms. Merkel is to declare a national urgency and abandon “Die Gruene wende” and start up the mothballed nuclear powerplants.

  9. September 3rd, 2014 at 23:49 | #9

    Your Gazprom strategy is the only (relative peacefull) save way to lay insurmontable pressure on the Putin and his associated military industrial complex and maybe get rid of both
    Many people in Europe prefer to have a “cold” winter with much less Russian gas, agressiveness and war mongering..

  10. Glenn
    September 4th, 2014 at 15:19 | #10

    Russia has went thru many worse hardships than the west could impose. Cuba has stood since 1962 with very heavy sanctions so try and quit fooling yourselves. If Europe hadn’t listened to all the environments and drilled in their own country this wouldn’t have been an issue to begin with. Of course all the crazy environmentalists usually are not the ones that would suffer anyway as usual.

  11. Glenn
    September 4th, 2014 at 15:21 | #11

    John that will never happen they would rather put up windmills that freeze in the winter.

  12. Glenn
    September 4th, 2014 at 15:25 | #12

    @W.L. Williams
    W L Williams totally agree with you but as you know the U.S. can’t keep it’s nose out of anything. The problem is everything the U.S. has done to date has made things worse. The U.S. acts like it has no problems of it’s own and that is far from the truth, so look in your own backyard first.

  13. Glenn
    September 4th, 2014 at 15:26 | #13

    @Michael Hullevad
    Michael you’re kidding, it would take years to get them started and that is only if the environmentalist don’t keep it tied up in court for years.

  14. Glenn
    September 4th, 2014 at 15:32 | #14

    @Arnold U
    Williams buying the stock is not an option as the so called experts said a while ago the stock would sky rocket when it went on the new york stock exchange. Guess what it didn’t list there and the stock has been stuck in the $8 level for ever.

  15. Alex
    September 4th, 2014 at 22:07 | #15

    please, get your facts straight before giving an investment advise. Gazprom doesn’t threat to cut gas supply to Ukraine. They have done it back in June and until they get the payment, GP has no intention to resume the shipment.

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