Gas price outlook firm despite injection surge

June 9, 2003
The natural gas price bulls are feeling a bit nervous in the wake of a couple of weeks of strong storage injection rates.

The natural gas price bulls are feeling a bit nervous in the wake of a couple of weeks of strong storage injection rates.

Given the likely trends for the overall US gas storage outlook, summer weather patterns, and oil prices in the months ahead, however, the bears would be well-advised to stay in hibernation a bit longer.

Storage surge

Natural gas prices drifted back below $6/Mcf at the end of May in the wake of two consecutive strong weeks of injection into storage. Back-to-back record injections of 90 bcf and 95 bcf into storage occurred the weeks ended May 16 and May 23, respectively.

"Weather-adjusted injections were about the same rate in 2001, when prices crashed," noted Ron Denhardt, vice-president, natural gas services, Winchester, Mass.-based Strategic Energy & Economic Research Inc, referring to the mid-May injection patterns. "If storage injections would continue at the 2001 rate, (storage) would end October at 2,950 bcf."

Denhardt points out, however, that there was a recession in 2001 vs. a slowly growing economy today. In addition, the volume injected into working gas storage thus far this season is lagging 2001's level by 164 bcf.

Still, while nonetheless avoiding prediction of a price collapse or normalized storage levels Nov. 1, the analyst cites the latest injection data as a reason for increasing his assessment of "significant downside market risk later this nonheating season."

A big contributor to the recent surge in storage injection volumes was the unexpectedly mild weather in the US Northeast, offsetting a seasonally early heat wave in the West, South, and Midwest.

How long that trend lasts is anyone's guess, but the arrival this year of a La Niña climate event could kill it quickly. Unlike El Niño, with its storms and mild, wet winters, La Niña brings very hot, dry summers and generally warm winters.

Should the hot, dry weather seen in the western half of the US at the end of May spread to the eastern seaboard, the strong injection pace will evaporate, and the year-to-year storage deficit will swell anew.

The National Weather Service sees the mid-May weather trend of above-normal temperatures in the West vs. below-normal temperatures in the East persisting well into June. But the heart of summer looks to be a hot, dry one across most of the US.

Fuel-switching

Some bears were also grumbling about a rising trend of fuel-switching with the recent slippage in oil prices and continued strength of natural gas prices.

The problem with that view is that there remains continued tightness in distillate and residual fuel stocks. This puts an effective cap on any massive fuel-switching, such as that seen in winter 2001.

Memphis-based investment banking firm Morgan Keegan & Co. Inc. noted that resid and distillate inventories suffer from the same problems as does natural gas.

"Resid inventories of 32.1 million bbl and distillate inventories of 97 million bbl are below the 5 year minimum range," Morgan Keegan analysts reported in a May 13 research note.

That sort of stock tightness causes resid to trade close to a premium with crude oil and, correspondingly, natural gas to trade at a significant premium with resid. Such premium would mean a gas price of $5-5.30/MMbtu this summer based on Morgan Keegan's crude oil forecast of $26-28/bbl. Should discipline within the Organization of Petroleum Exporting Countries sustain crude oil prices closer to $30/bbl, then a price forecast for the summer of $5.70/MMbtu is warranted.

But Morgan Keegan also predicts a 2% decline in gas demand this summer on the basis of what it sees as normal temperatures. And it sees gas supply as flat, adding the caution: "We may be unduly conservative holding production flat when signs of sequential quarterly declines are apparent."

At the same time, the firm's analysts contend the storage deficit is likely to remain chronic up to the start of the winter heating season. And they also see periodic price spikes over $10/MMbtu during summer weeks that exceed 90 cooling degree days.

Given their expectations of normal summer temperatures, there remains little prospect of avoiding that chronic inventory deficit en route to a possible record low stock situation Nov. 1.

The market may just need a La Niña winter in 2003-04 to keep gas prices out of the stratosphere for the foreseeable future.

(Online May 30; author's e-mail: [email protected])