Unbeknownst to many Americans, the demand for natural gas during the winter months, with rare exceptions, greatly exceeds real-time domestic extraction volumes. This gap is overcome by tapping into the surplus natural gas injected into vast underground caverns during the warmer months. Historically, storage volumes increase from April through October and decrease during the heating season (November through March).
The most recent storage update from the Energy Information Agency, covering the week ended July 21, packed an unwelcome surprise, when it reported a net withdrawal of natural gas to the tune of seven billion cubic feet (bcf). According to AmericanOilman.com, this was the first time this decade that EIA reported a weekly decline of natural gas in storage inventories occurring between mid-April and mid-October. That week in July typically sees a build of 61 bcf.
Even though current storage volumes are running 20% above historical norms, this surprise development pushed spot market prices above the $7.50/MMBtu mark for this first time in four months.
At first blush, the market’s reaction seems hasty and overwrought. Even if weekly injections between now and Thanksgiving lag behind historical volumes by 50%, there still would be more than enough natural gas to ride out a severe winter. So why are energy traders and speculators so quick to bid up prices?
Rising industrial demand for natural gas is one factor explaining their fidgety behavior. Consumption in this segment is up since January, as some of the Gulf Coast refineries and chemical plants heavily damaged by the hurricanes have returned to active duty. Indeed, the shutting down of these fuel-intensive industries last year played a significant part in reducing last winter’s drawdown of stored natural gas, more than compensating for the decline in output from damaged Gulf of Mexico wells.
But July’s sultry weather is the bigger story. Nothing succeeds quite like sizzling temperatures and lofty dewpoints in driving electricity demand into record territory. On a day like today, with afternoon temperatures in the mid-90’s, every gas-fired generator controlled by the regional grid operator is cranking full-bore to keep all the building air-conditioners humming.
Each year results in more buildings to cool and more gas-fired power plants to run their HVAC systems. Recent 30-day forecasts call for warmer than normal temperatures persisting through August. Yes, last summer was a hot one, but this year’s heat waves are likely to force record volumes of natural gas to be released from storage before the heating season begins.
With the demand picture changing this suddenly, the surplus of natural gas in storage doesn’t seem quite as reassuringly huge as it did a month ago. The market bulls are betting that the surprise contraction of stored natural gas was not merely a blip, but rather the start of a trend that will continue through summer’s end. One hardly need add that higher demand will always propel prices higher unless supplies are able to match the increase stride for stride.
To that last point, it is worth pausing on another illuminating statistic from last week, namely the record number of gas wells completed in the second quarter this year, constituting a 14% increase over year-ago levels. Yet, given the rate by which the productivity of freshly completed gas wells have declined in recent years, it would be imprudent to assume that we will be as flush this November as we seemed to be in May.
API: U.S. Oil, Gas Drilling Activity Hits Two-Decade High in Q2. www.rigzone.com/news/article_pf.asp?a_id=34612