Gas shut in due to low prices

Sam Fletcher
Senior Writer

Natural gas futures prices temporarily strengthened Sept. 4-5 on news that Chesapeake Energy Corp. of Oklahoma City, the largest independent gas producer in the US, is reducing its gross production by 200 MMcfd through a combination of production curtailments and deferred pipeline hook-ups for the rest of 2007 due to poor market conditions.

That translates into a net loss of 125 MMcfd for Chesapeake, 6% of its current production. The reductions will be in the company's most prolific areas in the Fort Worth basin Barnett shale, South Texas, Deep Haley, and Anadarko basin.

"This news may spur other E&P companies to slow drilling activity as we approach what is shaping up to look like another year of high summer-ending storage levels," said analysts in the Houston office of Raymond James & Associates Inc.

Chesapeake also is cutting its drilling program to 140-145 rigs by the end of this year from 155-160 rigs currently. That will reduce the company's previously budgeted capital expenditures by 10% in both 2008 and 2009, or a combined $1 billion.

Despite the recent drop in gas prices, Chesapeake officials apparently used the futures market as an effective hedge. "So far this year, we have realized approximately $630 million in gains from our natural gas hedges, and, as of the middle of last week, the mark-to-market gain on our remaining 2007-09 natural gas hedges was approximately $1.5 billion," company officials reported Sept. 4. Chesapeake hedged 60% of its 2007 second-half gas production, 70% of its 2008 production, and 27% of its 2009 production at weighted average prices well above the Sept. 7 spot market price of $5.57/MMbtu at Henry Hub, La.

Despite the earlier jump in prices, gas futures fell Aug. 6-7 to within pennies of the week's opening price on the New York Mercantile Exchange as the hurricane premium evaporated from the market and US inventories expanded. The Energy Information Administration reported the injection of 36 bcf of gas into US underground storage in the week ended Aug. 31. That pushed US gas storage to just above 3 tcf for the first time ever in August, 30 bcf above year-ago levels and 284 bcf above the 5-year average.

With predictions for moderate weather for the rest of the summer and a current lack of hurricane activity, Raymond James analysts warned, "Look for continued weakness in the natural gas market as we near the end of this injection season."

Oil prices climb
Crude prices climbed to a 5-week high over five consecutive trading sessions through the first week of September, topping $77/bbl in intraday trading Sept. 6-7.

The EIA reported US commercial crude inventories fell 3.9 million bbl to 329.7 million bbl in the week ended Aug. 31. Gasoline stocks dropped 1.5 million bbl to 191.1 million bbl in the same week, well below average for the time of year. Distillate fuel inventories increased by 2.3 million bbl. to 132.2 million bbl (OGJ Online, Sept. 6, 2007). That put US crude stocks below last year's inventory levels for the first time in 12 weeks.

Paul Horsnell at Barclays Capital Inc., London, said, "US gasoline inventories fell further below the seasonal norm, to a new 2-year low in absolute terms and to a new all-time low in terms of days of forward demand."

However, Olivier Jakob, managing director of Petromatrix GMBH, Zug, Switzerland, noted a build of crude stocks in Cushing, Okla., storage—"the first substantial build since April," he said. "More importantly, the Cushing build is happening despite the front West Texas Intermediate spreads [being] at a multiyear high backwardation (for the season)." In backwardation, prices for promptly delivered crude exceed those of futures contracts with more-distant delivery dates.

Moreover, Jakob said imports of crude from Canada into Petroleum Administration for Defense District 2 [the US Midwest including Oklahoma] were 190,000 b/d higher in August than in July, resulting in a rebound of stocks. "With refinery maintenance in PADD 2 during September and higher Canadian crude oil production, the flag remains for further stock build in the Midwest, which does not correlate with the current level of WTI backwardation. The Cushing statistics are the first serious alarm bells in many weeks for the WTI backwardation, which will be in greater danger if the Cushing trend is confirmed next week," he said.

Meanwhile, there was virtually no expectation that ministers of the Organization of Petroleum Exporting Countries would take any action at their Sept. 11 meeting in Vienna. "Several of the oil ministers…have publicly stated they are in favor of not changing current production quotas," said Raymond James analysts.

(Online Sept. 10, 2007; author's e-mail:

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