Europe Works to Unlock Billions for Energy Traders Under Strain

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(Bloomberg) — Europe’s nations agreed to take emergency measures to ease the liquidity strain in energy markets as billions of euros are tied up to secure trades and company debt soars ahead of a potentially volatile winter.

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European Union leaders will hammer out steps to improve market functioning in a bid to boost transparency, alleviate “liquidity stress” and curb price swings, according to the conclusions of a meeting Thursday. While details are still to be agreed, the move indicates progress toward stabilizing the EU market after several countries took matters into their own hands with large utility bailouts.

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Wildly fluctuating prices in the wake of Russia’s invasion of Ukraine have forced energy companies to find and lock-in huge amounts of capital to insure their trades. That has shrunk the number of firms active in the market, and a volatile winter could drive more out, further reducing liquidity.

“The sheer scale of capital getting tied up into mitigating risk positions on the commodity markets is preventing companies from making use of cash flow for other purposes,” said Alun Davies, senior director at S&P Global Commodity Insights. That produces “the potential knock-on consequence of downgraded credit ratings — which would further impact their ability to borrow.”

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European energy firms reaching out to banks and investors for more cash are quickly drying up those pools. Outstanding loans to such companies have climbed 23% this year, after raising a record €158 billion ($154 billion), according to data compiled by Bloomberg. That would be the highest annual loan tally from the sector since 2007. 

The industry now owes around €790 billion in loans, and that’s set to rise further as a growing number of companies seek additional funds.

Governments are increasingly getting involved with their own money in markets where banks feel overexposed. Germany, the UK and Nordic countries have allocated a combined €159 billion in guarantees to give banks confidence to lend to energy firms.

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Collateral Demands

Companies must post collateral, or margin, to exchanges to insure against the risk of being unable to fulfill a trade. When volatility spikes, exchanges demand more collateral to protect both the trade and the partners involved.

Some of Europe’s largest energy producers have been grappling for financing. Italy’s Enel SpA is in talks with banks on a €16 billion state-backed credit line to cover derivatives risks linked to price jumps. Securing such a facility would help the company “ring fence” its balance sheet against volatility and avoid “potential difficult situations,” JPMorgan Chase & Co. said in a note.

Meanwhile, Switzerland’s Axpo Holding AG has agreed on a €2.3 billion facility with a group of lenders to beef up its finances, and Germany’s EnBW Energie Baden-Wuerttemberg AG is using more niche debt instruments to raise money after it pulled a bond amid market volatility in March.

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The assistance doesn’t stop at cash. Easing market rules and regulations can help too. The European markets regulator plans to increase the clearing threshold for some counterparties by as much as €4 billion and broaden the list of eligible assets that could be used as collateral for one year, including temporarily allowing letters of credit from banks to be used.

Price caps, like those on natural gas being discussed by the EU, could also help to cool the market — though critics worry they may curb supply and increase demand at the same time. Gas prices have sunk significantly from their August high, but such steep slides can also contribute to the liquidity problem, since collateral requirements are caused by volatility as much as by absolute price.

“Many energy companies and utilities still are in a very difficult financial situation, even if prices have come down,” said Fabian Ronningen, a power-market analyst at Rystad Energy AS. “Both the market participants and authorities are fully aware that the ‘low’ prices on gas and power we are seeing now could swing up pretty soon, and pretty steeply.”

—With assistance from Jacqueline Poh.