IE 11 is not supported. For an optimal experience visit our site on another browser.

Natural gas producers warn of costly future

As a record natural-gas supply depresses prices, the industry that supplies the fuel has a message to consumers: don’t get used to it.
/ Source: The Associated Press

With the price of natural gas at its lowest level in more than a year, the industry that supplies this mostly domestic fuel has a message to consumers: don’t get used to it.

Following a warm winter that sapped home-heating demand, U.S. natural-gas inventories have bulged to record springtime levels, and that has caused prices to plummet roughly 60 percent since their mid-December high. Many analysts anticipate a further swelling of inventories in the months ahead and say prices are susceptible to another 20 percent decline.

To the extent local utilities can buy and store cheaper fuel, “those are savings that go to the consumers,” said Chris McGill of the American Gas Association, whose members deliver natural gas to some 56 million U.S. homes.

But the Natural Gas Supply Association, which represents companies that produce the fuel, warns there is no guarantee that the nation’s supply cushion will look so comfortable by the end of summer — let alone next winter, when consumption typically peaks.

If it is an unusually hot summer, association president Skip Horvath argues, homeowners will crank up their air conditioners, which suck up lots of gas-fired electricity. If there is a repeat of last summer’s ferocious Gulf of Mexico hurricane season, significant volumes of offshore natural-gas production could be lost. And a colder-than-normal autumn could rapidly deplete inventories before winter.

Traders on the New York Mercantile Exchange seem equally nervous about these possibilities.

The price of natural gas to be purchased in February is almost $11 per 1,000 cubic feet — or more than 80 percent above the price of fuel deliverable in June.

If the market was as worried about the future supply-demand balance for oil, February crude futures would be trading at around $125 a barrel right now instead of $73. (With June oil futures trading in the upper-end of their 52-week range, the implication is that oil traders are more jittery about the near-term.)

The main reason for the plunge in front-month natural gas futures since December has been weekly Energy Department data showing steady increases in the volume of gas stored in underground facilities across the lower 48 states. On Thursday, the agency’s latest report showed inventories rising to more than 2 trillion cubic feet, or 53 percent above the five-year average for this time of year. That sent Nymex natural gas futures sliding 18.9 cents to $5.94 per 1,000 cubic feet. The last time natural gas futures settled below $6 was Feb. 18, 2005.

Judging by the rate at which natural-gas is currently being injected into storage, analysts say there could be more than 3.5 trillion cubic feet of inventory before the start of the next home-heating season, or 6 percent more than last year’s record.

It is possible, said Dan Lippe, a Houston-based energy consultant at Petral Worldwide, that by fall the country’s storage capacity may not be sufficient to hold all the available supply, forcing some producers to cap wells.

“You’ll have gas producers chasing customers around,” Lippe said. “That would be very bearish for gas prices.”

Mounting concerns about limited storage capacity later this year — and the potential for huge profits if the wide gap between June and January futures holds — could accelerate the pace of inventory stockpiling this summer, said Antoine Halff, director of global energy at Fimat USA.

Ron Denhardt, vice president at Strategic Energy and Economic Research Inc. in Winchester, Mass., said natural gas prices could fall to $5 if it is a mild summer and no significant output is lost due to hurricanes.

While consumers thinking about locking in a fixed cost for natural gas may see some slightly better offers than were available earlier this year, most of the terms set prices above $10 per 1,000 cubic feet, and in some cases above $14 per 1,000 cubic feet.

Horvath said natural-gas inventories may be high right now by historical standards, but the fact is that demand naturally tapers off in spring.

“You don’t want to look at a couple of weeks in the shoulder period and read too much into it,” Horvath said.

Devon Energy Corp. CEO Larry Nichols agreed. Nichols said today’s natural-gas surplus is “a short-term phenomenon” that is masking a more significant longer-term trend, namely that North American natural-gas producers for several years have been struggling to keep up with demand. And despite a multiyear surge in drilling activity, there is no expectation that the industry will add significant supplies anytime soon.

In a nutshell, Nichols and other executives complain that they lack access to the most promising onshore and offshore natural gas fields, and that wells being drilled in areas they have access to are being depleted at increasingly rapid rates, making it difficult just to keep output flat from year to year.

Many large industrial consumers of natural gas also believe today’s inventory surplus and price levels are likely to be temporary. They have aligned themselves with Devon and other energy producers in lobbying Congress to open up to drilling Gulf of Mexico acreage that is now currently off-limits.

“The industry’s hands have been tied when it comes to getting access to what’s off our shores,” said Jim Frias, corporate controller for Nucor Corp., a Charlotte, N.C.-based steel producer that uses natural gas to melt scrap metals.

Data maintained by petroleum services provider Baker Hughes Inc. show 1,367 natural gas rigs operating onshore and offshore in the United States, or 209 more than a year ago. At the same time, domestic output in February, the most recent month for which data are available, was 3 percent below year-ago-levels, according to the Energy Department.

Nichols notes that without the impact of last year’s hurricanes, U.S. natural gas production “is probably growing modestly,” though not enough to alleviate longer-term tightness in the market. “The futures market reinforces that,” he said.

But Lippe said natural-gas traders are allowing emotion to cloud their judgment.

“The futures market is betting that this hurricane season is going to be a duplicate of last year,” he said. “We have hurricanes and tropical storms in the Gulf of Mexico every year, but we do not have devastating damage to production facilities and subsea pipelines every year.”

While forecasters expect another busy Atlantic hurricane season this year, Colorado State University researcher William Gray, who has been predicting hurricane activity for 22 years, said last month “it is statistically unlikely that the coming 2006-2007 hurricane seasons, or the seasons that follow, will have the number of major hurricane U.S. landfall events as we have seen in 2004-2005.”

His team predicts an 81 percent probability that at least one major hurricane will make landfall along the U.S. coastline, and a 47 percent probability a major hurricane will hit the Gulf Coast between the Florida Panhandle and Brownsville, Texas — a region dense with natural-gas platforms and pipelines.