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From: Big Dog3/19/2012 6:45:10 AM
1 Recommendation   of 198409
Pritchard Capital

Natural Gas Prices: How Much Lower Can They Go?

Our research suggests gas prices are unlikely to go significantly lower due to pricing pressure from stored gas at this time. The amount of gas in storage relative to available capacity does not appear tight enough to necessitate release of large quantities quickly to preserve the viability of storage facilities, nor is there a strong economic motive to release the gas in this manner. Instead, we think a slow steady oversupply of the market is the more likely outcome and should be a gentler price suppressor as the result. Should gas production continue to grow, or summer demand proves excessively mild, this subject will require revisiting in the fall. We also do not believe falling coal prices will reduce the incentive for coal-to-gas (CTG) switching in the power stack unless coal prices fall dramatically. The amount of price decline required plus past coal production discipline leads us to believe this is an unlikely outcome at this time.

Natural gas prices and the relative performance of predominately gassy producer equities provide ample evidence that current natural gas oversupply in North America is well understood. From this realization two primary lines of inquiry emerge: how low can natural gas prices go (and why); how high can natural gas prices eventually recover (and why)? In this essay we think about the first question in relation to gas in storage and the price of coal.

Method:We examined gas inventories in storage and the total cost to generate electricity from Central Appalachian (CAPP) coal, Powder River Basin (PRB) coal, and natural gas to determine if gas released from storage and lower coal prices could be catalysts to significantly lower natural gas prices, which we define as at or below $1.80/Mcf. Significantly lower also encompasses a durative component. Prices dropping below $2.00/Mcf and recovering within a month are unlikely to have a marked effect on either forward price curves or producer behavior. Prices stuck in the $1.80-$1.99 range past a couple of months are likely to produce demonstrative effects on both.

What Else Could Create Much Lower Gas Prices? CTG switching support of gas prices depends on how much gas utilities can consume. A Congressional study taking 2007 Combined Cycle Gas Turbines plants (CCGT) in operation, the normalized amount of unutilized CCGT capacity through 2009, and 85% capacity factors as a realistically sustainable capacity ceiling determined the theoretical limit of CTG switching as approximately 17 Bcf/d. With the stricture that a CCGT and coal plant must be located within a 25 mile radius to eliminate electricity transport mismatches as a variable, additional gas demand from coal displacement dropped to 3.6 Bcf/d. CTG displacements as high as 6+ Bcf/d have already been reported over the past three winters so the 25 mile stricture does not appear to be valid. While admitting the path from theory to reality remains opaque for a variety of reasons, market behavior seems to indicate the upward limit of fuel switching capability has yet to be reached. However, should that limit arrive and gas production continues to grow, increased production as a further suppressor of the gas price seems the logical outcome.

Can Excess Storage Create Much Lower Gas Prices? Whether natural gas is ultimately burned, compressed, or liquefied, it must first be transported from wellhead to processor to distributor and finally end user to be consumed. Along the way, interstate pipeline companies, intrastate pipeline companies, local distribution companies (LDCs), and independent storage service providers[2] store gas during periods of lesser demand to satisfy periods of greater demand perhaps hoping to store at lower prices and sell at higher prices taking advantage of variable demand trends. The mild winter we are exiting provided few opportunities for storage to serve this high demand function, the result likely being approximately 31% higher inventories than usual on a five year average basis moving into the upcoming summer injection season. Storage ratchets refer to how the storage owner/operator's obligation to inject or withdraw gas for a storage customer varies with the actual performance of the gas storage facility. In plain English this means facilities can refuse to take in new gas or force the release of stored gas through penalties or confiscation based on the level of fullness in the facility at certain time periods.
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