What's going on with global energy prices?

This is a tumultuous time in energy: a once-in-a-generation crisis driven by fossil fuels, made even worse by Russia, the world's largest gas exporter, invading Ukraine.

We're committed to fair prices that truly reflect the cost of the energy we supply you.

In this blog, we'll give insight into what's going on in the global wholesale energy market, to help you better understand trends in UK tariff prices.

Wholesale Prices remain higher than pre-crisis levels

We won't sugar coat it. After months of market instability, wholesale market prices for gas (which still largely determine electricity costs in the UK) remain a fair bit higher than the "normal" pre-crisis rate of around 50-70p per therm. Prices in this final quarter of the year are looking a little better, but given that the UK’s electricity price cap is pegged to this wholesale rate (and based on electricity prices 3-6 months earlier in the year) this has meant that the average household will expect to see a price rise on the 1st of January. The price rise will work out at 5% or around £100 - to £1,928 for the average home over the course of a year.

Still, it’s important to remember that below the surface, all of this is rooted in our energy system’s reliance on dirty gas and a market structure that prevents the benefits of cheap, clean renewables from rising to the surface. If we want to see lower prices, we must push for a system where we can quickly and efficiently build and connect renewables to the grid. At the same time, we must push for a market rethink. ‘Local pricing’, rather than a single UK price, is projected to save the UK £52bn over 16 years in part by reducing inefficiencies, for example. All of this would go a long way to reducing our reliance on volatile, expensive fossil fuels and do wonders to bring energy prices down.

Wholesale Prices are falling - what's going on?

Since our last wholesale market update in December 2022, wholesale prices continued to fall through to February, and have remained around 5 to 6p / kWh since then.

Much lower than the peaks of last year. But it’s still considerably higher than the level it was at in April 2021, which was 2p/kWh. The chart below shows gas prices.

How is the wholesale gas price worked out?

The wholesale gas price measures the future prices over the next 12 months, and takes into account how the demand changes throughout the year.

OFGEM use this same methodology to set the price cap. In this update, we’ve displayed prices in p / kWh, including 5% VAT, to be consistent with what our customers see on their bills. The wholesale market prefer to quote UK wholesale gas prices in p/therm, excluding VAT, which is why their figures might look a little different.

A price of 5p / kWh including VAT is equivalent to a price of 140p /therm excluding VAT.

Ofgem has set its price cap at 7.5p / kWh

You can see that the chart for wholesale gas prices settles at around 5p/kWh. Ofgem’s price cap takes this into account, as well as additional network costs of 2.5p/kWh.

Why haven’t retail prices fallen as much as wholesale prices?

We buy energy 2 - 5 months in advance to make sure we’re prepared for any changes in the market, as we saw in 2021.

The lower wholesale prices we’ve been seeing more recently will be reflected in our tariffs from July 2023 onwards.

While wholesale prices were peaking (30p / kWh), retail prices (the prices you get from your energy supplier) reached a maximum of 10.3p / kWh. This is because of the Energy Price Guarantee discount, which reduced retail gas prices by 6.7p / kWh in Q1 and 2.3p / kWh in Q2.

Why doesn’t Octopus buy energy at the cheaper, ‘day ahead’ price?

Buying our energy in advance protects our customers against sustained increases in wholesale prices. That means if there’s a sudden increase, our customers won’t have to pay the highest prices.

‘Day ahead’ prices can jump around a lot, based on weather and other short-term factors.

While we do encourage customers to shift their consumption to days and times when prices are cheaper, most of our customers still end up using more on colder days, when the ‘day ahead’ price is higher because of increased demand.

Looking ahead

Energy markets are unpredictable, driven by many factors including weather, geopolitics (especially the war in Ukraine), policy and politics. However, we can look at forward markets to see what the market is expecting. We display these in p / kWh including 5% VAT as that is what is shown on customer bills.

At the moment UK gas short-term prices are around 2.3p / kWh, lower than they've been for the past couple of years. That’s because last winter was warmer than usual, and gas storage levels are currently high for this time of year.

However, it is important to remember that they still aren't low compared to the average price from January 2010 to December 2019, which was 1.8p / kWh.

Wholesale Prices are falling - why am I still paying the same rate?

1) Wholesale energy prices are lower than the peak they hit in August, when gas per therm reached an incredible 704p. Right now, Gas per therm is around 197p, but that's still high - in winter gas usually only costs around 50p a therm. This means right now, energy costs are 400% the normal level). We’re not out of the woods yet.

2) The small positive is that no household has ever paid anything close to the peak 704p a therm. With energy companies buying energy ahead, and government subsidies to households (the EBSS and EPG schemes).

3) The energy price cap also GUARANTEES you’ll see lower costs when they fall. There’ll be a lag - just as the energy price cap slows the price rises, it also slows falls - but energy suppliers are not able to pocket excess profit.

Recent market changes have been drawing a fair bit of attention.

Graphs like this one on circulating on social media have prompted a lot of questions: why do these sources say gas prices are 📉 when my prices are 📈?

What’s happening in the wholesale markets?

Since lockdown ended and businesses reopened, global energy consumption has increased rapidly and significantly (particularly in China). In 2021, Europe’s ageing energy infrastructure struggled with reliability. There were outages in a number of French nuclear generators and northern gas fields. This, coupled with escalating tensions between Russia and Ukraine which raised questions about the reliability of Russia’s gas supply, meant wholesale prices increased, at the time, to record levels.

In February 2022, fears were realised as Russian troops invaded Ukraine. Europe has traditionally imported almost half its gas from Russia, but quickly found itself placing sanctions on Russian companies such as Gazprom. The supply of Russian gas didn’t stop immediately, but was rapidly reduced. Then in September there were explosions at the critical Nord Stream pipelines that deliver gas from Russia to Germany, meaning that, even if there is soon an unexpected geopolitical resolution, supplies from Russia are likely to remain low for some time.

More recently, some alternatives to Russian gas have been found and there have been some welcome falls in prices. Though much of continental Europe has traditionally been reliant on receiving gas through pipelines, it can also be shipped as liquified natural gas (LNG). Countries like Germany, the Netherlands and Finland have scrambled to build floating LNG terminals and are now importing gas this way, and after an unexpectedly warm autumn, reserves are holding steady. Customers are also consuming less energy as a result of high prices. All these factors have reduced wholesale prices, and prices have dropped, and whilst still incredibly high, are around 1/3 of the peak levels seen in late summer.

However, we’re far from out of the woods. Prices are still around four times higher than normal levels. A sustained period of cold weather would quickly eat through our stockpiles. We are more exposed to technical outages in key generators and producers because there are simply fewer available replacements than there have been in recent years.

Where’s the money going?

The energy price cap GUARANTEES you’ll see lower costs when gas prices fall. There’ll be a lag - just as the energy price cap slowed the price rises (pushing them back to this October) it also slows falls - but you can be certain energy suppliers are not able to pocket excess profit.

However, there’s no cap on the prices energy generators and producers can sell at. There can’t be - gas and electricity is sold by private companies on a global market. If there was a cap placed on wholesale gas and electricity in the UK then the energy would be sold to other countries instead and we would risk blackouts.

Globally traded Liquid Natural Gas is critical for the UK and Europe to get sufficient gas supplies in the absence of flows from Russia. To make sure we receive the volume we need, we need to outbid the rest of the world. Traditionally Japan and China are the largest importers of LNG so Europe has been paying more to get the tankers to come our way.

Critically, in many cases the cost of extracting and transporting the liquified natural gas is no higher than before. However, the war and the rejection of Russian pipeline gas has created a situation where the gas is now sent to the highest bidder, regardless of cost.

So where is the excess money going? Overall recipients can be placed in four groups.

1. UK based oil and gas extractors. They are earning many times more than usual for the same basic costs. Some of them are seeing windfall taxes to help reduce energy costs but others are able to use “investment allowances” to reduce these taxes
2. Global oil and gas extractors - the energy we buy from them is many times more expensive than usual, but they are not subject to UK windfall taxes
3. UK fossil fuel generators - they are exempt from windfall taxes so when electricity prices are high are able to make excess profits
4. UK renewables generators - SOME UK renewables generators are making windfall profits whilst others have fixed price contracts so are not. All UK renewables generators are subject to windfall taxes to help lower bills (except a few small generators).

How does this impact the price I pay for my energy?

Right now the majority of our customers are on our Flexible Octopus tariff. The price is currently set on a quarterly basis based on average wholesale costs over a 3 month period (starting 4.5 months before the current price cap came into effect). In other words, the price that customers pay between April and June 2023 will use an average of the wholesale price between 17 November 2022 and 17 February 2023.

On top of the energy price cap, the government has also introduced the Energy Price Guarantee, meaning that an average customer will pay an amount equivalent to £2,500 per year through to 31 March (when it will rise £3,000 per year).

If the Energy Price Guarantee (a multi-billion government subsidy to all UK households) wasn’t currently active then the average bill right now would be £3,549, and would rise to £4,279 in January (you can read more about how this works in our dedicated blog). However, the period that Ofgem uses to calculate these prices fell over a stretch in 2022 when wholesale prices were at their highest.

Since then prices have fallen a lot and if this trend continues, this will feed into the prices customers pay from April onwards.

The most important thing to understand is that these graphs show the price to buy energy that day. We buy energy for our customers in advance, via longer term contracts, which has a different price because it factors future risk. Buying in advance, or hedging, means we can secure a particular price for your energy for several months, smoothing out the price to shelter you from short term spikes.

This graph from Ofgem illustrates it a bit better, showing the level the energy price cap was set at for each time period vs the actual wholesale energy cost.

Earlier this year, wholesale spikes were absolutely massive. We didn’t hike the price ten times higher for you then, but that smoothing out works both ways. Which is why for now, while wholesale is dipping short term, we can't automatically put all our prices down.

Even though gas prices have temporarily dropped, they’ve still fallen from levels that were way above what we’ve been charging customers. In other words, these prices will have to fall further before they start feeding into a lower price cap next spring.

In the meantime, the Energy Price Guarantee will continue to protect customers, and we’ve got our £30 million Octo assist fund in place, alongside a bunch of other resources, to help provide further assistance to those who need it.

August 2022: A look at the price of gas for Winter 2022

June 2022: “I’ve heard wholesale gas prices have dropped a lot. Why aren’t energy tariffs coming down?”

This question's been flying around for a few weeks, so we wanted to explain. For a super quick read, our CEO Greg tweeted a mini-thread a little while ago:

The gas price that’s dropped significantly is the day-ahead price. It’s the price to buy gas in really short contracts. Suppliers don’t really buy energy that way, because of how volatile the market is day to day. We need to be able to offer stable, fixed prices to customers to protect them from these short term spikes, so we buy our energy in long term contracts. We'll buy a years' supply in advance for a customer so we supply it to them for a fixed price over the 12 months, sheltered from short term fluctuations in the market.

While day to day gas prices have dipped short term, the price to buy a long term contract hasn't come down the same way.

Why hasn’t the long term gas price dropped?

Long term contracts have to factor in future risks. Storage is low across Europe, plus, Russia, one of the world’s major gas exporters, is still at war with Ukraine, meaning low supplies and shortages of gas are expected this Winter. These major risks are still factored into the price of long term contracts now – and sadly, all the gas the UK has right now doesn’t help much because we can’t store it up to use when we need it.

Why has the short term gas price dropped so much?

The UK has a glut of gas at the moment. This is making current gas prices in the UK really cheap. The trouble is, we don't have the capacity to store the gas up to use when we really need it later this year in Winter. Instead, we’re exporting some gas to Europe (though this is constrained by a lack of pipelines and the fact that a lot of the gas we have is liquid, and Europe don't have a lot of facilities to 'regassify' it) and burning all extra gas we have to generate power right now. But without storage, our longer term issue of low gas supply in Winter still remains.

Sky News gets into this detail much more in their article “The surreal, but also real, problem of Britain's gas glut”, and the BBC’s More or Less also featured a great segment explaining this around five minutes in.

Will Octopus Energy be offering any new fixed tariffs?

Our costs to buy power are still really high, so tariffs still reflect that. We’re continually reassessing our rates based on the market. Whatever we do, we’ll do it in a way that means we can keep looking after everyone through the crisis, keep operating brilliantly for our customers and team, and offer competitive, fair tariffs. We're proud that our tech and operating model mean we're an extremely lean, efficient business, which meant we could afford swallow £150 million of higher energy costs in the crisis to avoid passing it onto customer bills.

We’re still offering the cheapest variable tariff of any major supplier in the UK, £50 under the price cap. And we’re as relentlessly focused on driving down costs to bring fair prices for our customers long term as ever. In fact, customers who took a fixed price with us when we started in 2016 and stuck on our variable tariff ever since would’ve typically saved over £1,000 by now, vs if they’d done the same with a Big 6 supplier.

March 2022: With war escalating in Ukraine, energy prices are five times higher than last year.

Alongside unthinkable human tragedy, Russia’s invasion has sent shockwaves through the global energy market. When we last blogged about the energy crisis six months ago, energy prices were three times normal levels. Since the conflict began, prices have increased again: they're now more like five times last year’s prices.

As I write this on Monday 7th March, gas prices have temporarily spiked to another all-time high – meaning energy costs us 10-12x more today than it would’ve a year ago.

Things are incredibly volatile right now, with market prices changing substantially overnight.

What does this mean for Octopus Energy’s prices?

We’ve been able to buy power for our variable tariff customers already, before the worst impacts of the Russia-Ukraine conflict, and we’ll swallow another £50 million worth of higher energy costs over the next 6 months to guarantee the cheapest variable tariff from a major supplier at £1921.

For the majority of households, a Price Cap protected tariff will offer much lower rates for the next few months. Anyone who really needs to switch to us now can always do so, but we’re asking that you give us a ring to talk it through first to make sure we can really offer you better value.

And of course, if you've already fixed your prices, your rates and charges won't be affected until your contract ends.

Day to day, energy prices are really volatile, and we’re having to change our tariff offerings much more often than usual. If you’re renewing your contract and get a quote for a new fixed tariff one day, it might not be available the day after.

Our energy trading team have their eyes glued to the market, looking for prudent opportunities to secure power as cheaply as possible to keep your bills lower.

Our price promise to you

We're committed to fair tariffs, where your prices reflect the cost of energy, with a small margin on top for us to cover our business costs. When there's sustained changes in the wholesale cost of energy, we do have to adjust accordingly, but we've consistently cut into our margins so we can increase prices as little, and as late as we possibly can.

During the energy crisis, we've have chosen to spend £100 million so far to keep your bills as low as possible. We've spent a further £50 million to offer customers the cheapest variable tariff of any major supplier, £48 below the Price Cap. If you're a customer and you'd like to find out more, read about Flexible Octopus and get in touch with us.

Alongside that, we have provided a 4% discount on standing charges for certain tariffs, as well as offering 100,000 customers in need the ability to apply for a 6-months long standing charge holiday. And when we can, we'll bring prices down. We pass savings onto customers whenever possible – at the beginning of 2020, when wholesale costs dropped, we were the first supplier to cut prices. We’ll continue to watch what’s going on in wholesale and bring you the very fairest prices we can, forever.

The background to the energy crisis: first published September 2021

In February 2021, Ofgem announced an increase to their energy price cap to adjust for wholesale prices rising. At that point, prices were 33% higher than they were 6 months before. Since then, prices have kept rising dramatically, driven by a range of factors:

• Our global dependence on expensive, polluting gas. Despite an ever growing share of the UK's power coming from renewables, we're still far too reliant on gas (most of it imported) to heat our homes and generate electricity, especially when we need power at short notice – 39% of Great Britain's power still comes from burning gas. With that in mind, an imperfect storm has gathered, pushing Global gas prices to a 13 year high. Strong post-Covid industrial demand across China has raised prices in Asia, so Liquified Natural Gas (LNG) cargoes are currently choosing Asian gas hubs over European ones, raising prices here.
  
• What's more, droughts in China and Brazil have also led to lower hydropower generation, meaning there's more competition for gas, raising further. In a dark irony, the very real effects of climate change is driving international demand for fossil fuels, and we're literally feeling the cost.
  
• Supply from Russia is significantly lower than usual as well, leaving gas storage across Europe only 55-60% full - 33% lower than the 5 year average at this time of year. Now, in March 2022 it's next to empty
  
• This, combined with significant gas and nuclear outages in the UK, and too few UK wind turbines to generate power from low wind levels have led to more gas, and even coal, being used for power production – pushing already rising wholesale gas and electricity costs to record levels.
  
  This is yet another reason why we're pushing so hard for a renewable revolution. As we generate more electricity from renewable sources like the wind and the sun (and move to electrify heating) the UK will become less exposed to changes in gas prices. For the time being, however, when gas is expensive, energy will be too.