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Winter heating season shaping up as a dud for natural gas--so far

So what's the bigger surprise: that oil prices have doubled since the collapse of late 1998 and early 1999 or that the third winter heating season in a row is beginning to look like a dud for the natural gas sector?

Of course, there are duds and there are duds. Weather forecasters (and that's beginning to sound like an oxymoron) have backpedaled frantically on their predictions of normal winter temperatures, which had most of us expecting a $3/Mcf (and higher) winter heating season for natural gas in the US.

As we end what is projected to be the sixth week in a row in which temperatures average higher than normal, the concern is beginning to shift to an overhang of gas inventories in the spring. From the start of the winter heating season Nov. 1, the average US temperature, factored on a heating degree-day basis, has been 24% greater than normal and even 7% higher than a year ago (which itself was a warmer-than-normal season). There is a near-term glimmer of hope as predictions call for a return to normal winter temperatures through the weekend, but a single weekend does not a season make.

Until last week, spot gas prices in the US had declined for the 4 consecutive weeks that marked the first month of the heating season, from a season starting point of $2.88/MMbtu. After the Thanksgiving holiday weekend, prices rebounded a bit, with the average spot price rising about 16

But that might prove to be on the conservative side if oil prices continue to stay high. Even a fairly brief cold snap could cause a lot of fuel-switching by utilities that normally burn distillate this time of year just because of the higher crude costs that have already been passed through. Gas selling on the spot market at about $2 is at a substantial discount to heating oil produced from $25-27/bbl crude.

Even the brief post-Thanksgiving cold snap helped the inventory situation somewhat. According to the American Gas Assocation survey, inventory withdrawals last week totaled 49 bcf. That compares with an injection into storage of 5 bcf the prior week, an injection of 27 bcf the same week a year ago, and a withdrawal of 69 bcf 2 years ago. The upshot is that, even with the relatively mild weather season-to-date, the year-to-year storage deficit stands at 172 bcf. So remember: disappointment is a relative condition.

Other factors

The weather is not the only factor driving the gas market this season. A lot of nuclear power capacity has come back on line in recent months, squeezing the gas share of the power load.

An even bigger factor has been the arrival of some long-awaited Canadian gas export pipeline capacity: the Northern Border expansion started up at the end of December 1998, and the start-up of gas supplies from the Sable gas development and related pipeline off eastern Canada is imminent.

And drilling activity continues to pick up. Contrary to earlier trends, when gas prices were seen to be producers' salvation and oil prices were in the cellar-causing an acceleration of the shift to gas from oil in drilling budgets-the disappointing gas price regime vs. the surprisingly strong oil price climate is causing a reversal of that earlier shift. A lot of wells were programmed for gas in the third quarter, and a big question that remains is: Will those producers put those wells on line at $2/Mcf or wait for $3/Mcf to materialize later in the winter? Considering the cash flow hits caused by the recent oil price slump, it seems safe to assume that time value of money will hold sway, and those supplies will be added to the mix.

All of this adds up to a market that, in the end, is still primarily weather-driven. If the extra pipeline capacity and added production start swelling inventories again and demand does not pick up in response to colder weather, the gas sector could be looking at sub-$2/Mcf gas by the end of the heating season, rather than the $3/Mcf so many of us were assuming just a few months ago.

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OGJ Hotline Market Pulse
Latest Prices as of December 10, 1999

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Nymex Unleaded

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Nymex heating oil

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IPE gas oil

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Nymex natural gas

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