Natural gas prices have experienced a significant decline of 40% over the last three months, bringing them perilously close to dipping below a crucial price threshold — a first since April.
Weather as a Culprit
In a rare occurrence in the financial realm, the downward spiral of natural gas prices can actually be attributed to the weather. As a primary source for electricity generation and heating, the unseasonably warm winter, with the exception of a single week of frigid temperatures in January, has taken its toll on demand. An alarming prospect looms as natural gas futures teeter at just above $2 per million British Thermal Units, putting this threshold in jeopardy.
El Niño and Weather Patterns
The National Weather Service has forecasted that February will bring warmer weather than usual across most of the United States. One of the contributing factors to this deviation from the seasonal norm is the El Niño weather pattern. Characterized by warmer water in the Pacific Ocean, El Niño alters wind patterns and influences temperature, resulting in a warmer climate across the country.
Leo Mariani, an analyst at Roth MKM, emphasized the significance of February as a critical month for natural gas demand. He wrote, “Weather can be a significant swing factor for natural gas prices during this crucial winter period, as it has the capacity to impact natural gas storage levels significantly.”
Structural Shifts in Gas Production and Demand
The declining prices of natural gas also derive from structural shifts within the industry. The United States continues to experience a surge in natural gas production, surpassing demand. Consequently, the current storage capacity is 5% higher than the average for this time of year, exerting downward pressure on prices.
In conclusion, while the eccentricities of weather patterns and shifts in production contribute to the fall in natural gas prices, it remains uncertain if these downward trends will persist in the long term.
Natural Gas Industry Faces Structural Challenges
The natural gas industry is currently grappling with a structural problem that could have long-term implications for prices. Over the past year, natural gas producers have scaled back production by reducing the number of rigs used by 20%. However, it’s important to note that natural gas is not solely produced by natural gas companies. It is also a byproduct of oil drilling.
Referred to as “associated gas,” the production of natural gas that comes from oil wells has actually been growing in tandem with oil production. This increase in associated gas is the primary reason why overall natural gas production continues to rise despite the decline in rigs. In fact, by 2022, associated gas is projected to account for 15% of the market, up from just 6% in 2010. Furthermore, it is anticipated that associated gas could contribute an average of 20% of total production through 2050, as reported by the Energy Information Administration.
While this structural issue poses challenges for natural gas producers, there are other significant trends that could benefit the industry. One such trend is the anticipated growth in overseas gas exports, specifically in the form of liquefied natural gas (LNG).
Projections indicate that LNG export capacity is set to expand by 85% within the next four years. This growth in demand for U.S. gas from overseas markets is likely to exert upward pressure on prices. It is worth mentioning that the Biden administration has recently raised doubts concerning the future growth of LNG beyond 2028, following a pause on approvals for new export terminals.
Nevertheless, the industry has enough growth potential in the foreseeable future that the decline in prices has not impacted natural gas producers as severely as it has impacted the commodity itself. For instance, EQT, a leading company in the industry, has seen its shares drop by 18% since natural gas prices reached their peak, whereas futures prices have experienced a steeper decline of 40%. Similarly, Chesapeake Energy’s shares are down 12%.
Looking ahead, longer-dated futures prices indicate a general sense of optimism that the industry will rebound. Futures expiring in a year currently trade at $3.76, compared to the current price of $2.06.
In conclusion, the natural gas industry is confronting structural challenges that may continue to influence prices. However, amidst these challenges, there are promising factors such as the expected growth in LNG exports that could buoy the industry. While natural gas producers have felt the impact of declining prices, they have also shown resilience, with the market expressing optimism for a future recovery.
