EIA adopts new methodology

The US Energy Information Administration has adopted a new methodology to show high and low ranges for its forecasts of oil and natural gas prices, as revealed in the October issue of its Short Term Energy Outlook (STEO).

Sam Fletcher
OGJ Senior Writer

The US Energy Information Administration has adopted a new methodology to show high and low ranges for its forecasts of oil and natural gas prices, as revealed in the October issue of its Short Term Energy Outlook (STEO).

Rather than continuing the use of variables such as inventories, gross domestic product, weather, the Organization of Petroleum Exporting Countries' spare production capacity, and non-OPEC output, EIA now derives confidence intervals around expected futures prices using the “implied volatilities” of benchmark oil and gas options markets on the New York Mercantile Exchange.

“The EIA believes that this methodology represents a market-cleared estimate of risks, i.e., a buyer and seller have agreed on the value of an option,” said Adam Sieminski, chief energy economist, Deutsche Bank, Washington, DC, in an Oct. 9 report.

The advantage over using historical volatilities, said EIA officials, is that it assesses future price uncertainty based directly on current market data and the expectations of “highly informed” market participants. The same system is used by the US Federal Reserve Board and the Bank of England to assess market uncertainty.

Price outlooks
EIA expects West Texas Intermediate to average $70/bbl over this year’s last quarter and into first-quarter 2010 before rising gradually to $75/bbl by yearend 2010 as US and world economic conditions improve. “We believe prices will be somewhat stronger in the near term as recovering economy and short-term weakness in the US dollar hold prices closer to $75/bbl over the fourth quarter and first quarter,” said Sieminski. “However, the potential for some world economic setbacks in mid-2010 encourages us to maintain a below-consensus outlook for the second half of 2010 when we believe oil price could sink toward $60/bbl. We retain the view that 2011 oil prices will average $80/bbl, a price we feel is more in line with extraction costs.”

EIA’s confidence band around its gas prices forecasts is based on implied volatilities for the Henry Hub gas options on NYMEX. “EIA’s spot prices in the recently published STEO are $1/MMbtu lower than the NYMEX futures strip,” Sieminski said. “This difference reflects EIA’s expectation that a significant volume of natural gas production remains economic at prices below the current NYMEX 2010 futures prices.”

He said EIA expects gas demand in the electric power sector—a crucial outlet for high gas supplies this year—to be limited in 2010 as prices move slightly higher and new coal-fired electric power generation capacity comes on line.

EIA forecast the Henry Hub spot price will average $5/MMbtu in 2010. “Our view is more in line with the NYMEX curve,” said Sieminski. “We expect gas prices to average $4.75/MMbtu in the fourth quarter, rising to a $6/MMbtu average in 2010. We have maintained our 2011 estimate of $8/MMbtu because we believe the combination of lower supply and a recovered economy will allow the market to tighten significantly. Our $6/MMbtu gas price forecast for 2010 is still low enough, in our view, to support gas consumption growth in the key industrial and electric utility markets.”

The November gas contract closed at $4.96/MMbtu on Oct. 8, which was “high enough to discourage some storage activity,” he said. “As a consequence, our estimate of the end-season peak [for US gas storage] has come down from 3.9 tcf to 3.85 tcf.”

Iran’s ties to South Americ0a
While confronting Iran’s nuclear program, the Obama administration also should address that country’s growing influence and connections with anti-US regimes in Latin America, warned a security and economic expert in a recent opinion piece in The Atlanta Journal-Constitution.

Expansion of Iranian influence in the Western Hemisphere—diplomatic, economic, military, and terrorist infrastructure—has been rapid in the last 2 years, said Roman D. Ortiz, senior associate in the security and defense consulting firm Grupo Triarius and a professor at the School of Economy at Los Andes University in Bogota. He also reports a substantial increase in Iranian Revolutionary Guards (IRG) and their terrorist Hezbollah colleagues from Lebanon, with the IRGC in close cooperation with Venezuelan intelligence agencies.

“The radical leftist governments of Venezuela, Bolivia, Ecuador, and Nicaragua view Iran as a partner with whom they share common ground: hostility towards the US. The result is an anti-American alliance in the heart of the Western Hemisphere,” Ortiz warned.

Tehran hopes the threat of terrorist retaliation from Latin America will discourage the US and Israel from attacks against Iran’s nuclear infrastructure. Its goal is to shift US attention to the Western Hemisphere from the Middle East, said Ortiz.

(Online Oct. 12, 2009; author’s e-mail: samf@ogjonline.com)

More in Economics & Markets