European winter power prices reach their highest premium since 2022 due to gas and hydro shortages.

European winter electricity contracts are currently trading at over a 20% premium compared to next year's benchmark, the highest level since the 2022 energy crisis. This surge is attributed to low gas reserves and dwindling hydropower supplies, which heighten the risk of escalating energy costs for both businesses and households.

Since the initiation of the U.S.-Israeli conflict with Iran in late February, shipping through the Strait of Hormuz, a crucial route for global energy, has largely stalled. This disruption has caused wholesale energy prices to rise.

In Germany and Italy, the two European markets most dependent on gas-fired generation, winter baseload contracts are priced above €110 per megawatt hour (MWh) and €120/MWh, respectively. This is significantly higher than the year-ahead prices of approximately €92/MWh and €104/MWh for 2027, according to LSEG data. The pronounced premium — indicative of a backwardation market where short-term contracts are valued higher than those further out — highlights serious concerns about winter supply.

The primary worries are focused on the gas market. Iran has effectively restricted liquefied natural gas shipments through the Strait of Hormuz in retaliation for U.S. and Israeli actions, resulting in a loss of about 20% of global LNG supply and creating intensified competition between Europe and Asia for flexible shipments. This situation complicates Europe’s efforts to replenish storage ahead of winter. Current gas storage levels sit at approximately 38.2% of capacity, well below the usual seasonal average of about 52% and far from the European Union's goal of 90% by November 1. With about 160 days remaining until this deadline, injection rates would need to nearly double to reach that target.

Storage levels are lower than they were at the same time in 2022, when Europe was seeking alternatives to Russian pipeline gas as a result of Moscow's full-scale invasion of Ukraine. Firms like Norway's Equinor have raised alarms about supply security. Equinor executives noted this month that Europe might experience a severe gas shortage if the disruption in Hormuz continues for one to three more months.

According to BNP Paribas analyst Jason Ying, European power prices could increase further if the Strait remains blocked through the summer, tight gas storage persists, and the current water shortage continues. He added that gas prices, currently around €46/MWh at the Dutch TTF hub, do not yet reflect a winter premium.

Weather adds an extra layer of unpredictability. Forecasters predict an El Niño pattern this year, which could lead to a milder winter in Europe, reducing heating demands — but could also result in a hotter, drier summer, negatively impacting hydropower production.

Hydropower generation is already under strain. Insufficient snowfall last winter is likely to restrict reservoir replenishment over the summer, and the overall hydrological balance for continental Europe and the Nordics — a measure of available generation capacity in reservoirs, snow, and soil — is at its lowest level in a decade, according to LSEG data.

Nordic and Alpine countries depend on flexible hydropower to meet peak winter energy needs and to stabilize the grid when gas prices rise or renewable energy output declines. The constraints on hydropower during the 2022 gas crisis intensified pressures across the European energy landscape, and traders have indicated that low reservoir levels could similarly impact the situation this year.

Italy, which relies heavily on both gas and hydropower, is particularly vulnerable to potential price surges. Germany also faces challenges due to rising gas costs and reduced imports from hydro-reliant neighboring countries, noted Evan Kyritsis, an analyst at Swiss energy firm Axpo.

He stated that "the buffers that would usually be available — including full Alpine reservoirs, plentiful Nordic hydropower, and sufficient LNG supplies — are missing this year." Prolonged gas price increases or a continued closure of Hormuz would primarily affect front-year contracts in markets reliant on gas, as those prices are directly influenced by higher fuel costs, according to a power trader who chose to remain anonymous.