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Industrial Gas Demand Up, But Is It Enough?

Energy analysts scouring the government's monthly natural gas production and industrial gas demand statistics for bullish signs now see a tightening market based both on anecdotal evidence and the Energy Information Administration's (EIA) monthly report for December.

Gross daily natural gas output in the Lower 48 states moved 0.7% lower in December, pressured by cold weather that stymied production, the EIA said in its latest report. Gross production in December totaled 62.82 Bcf/d, down slightly from November's revised output of 63.28 Bcf/d, the EIA said. According to the government data, production in the Lower 48 states has fallen 0.9% since August 2008, when the rig count was at its peak of 1,606 and gross output was 63.38 Bcf/d.

In Louisiana, where producers are tapping Haynesville Shale deposits, production grew for the 12th straight month in December, the EIA report noted. However, in Texas output was down 0.3%, while it fell 2.4% in Wyoming. The largest drop was in New Mexico, where output fell 6.1% as "cold weather hampered operations."

Barclays Capital analyst Jim Crandell said last week the EIA data "surprised" on a few fronts. "Industrial demand surprised our forecast to the upside, as it grew 8% year/year [y/y]. "This recovery materially outpaces IP [industrial production], which fell 2.1% y/y, and gas-weighted IP, which increased 2.2% y/y, in December."

The increased industrial gas demand while the industrials' production generally languished is an indication of fuel switching, or load captured from coal because of the low natural gas prices, said energy analyst Patrick Rau. The low prices relative to oil, also would tend to boost petrochemicals' use of natgas feedstocks, Rau said.

Last week both El Paso Corp. and BP plc management teams reported that industrial activity appeared to be picking up at the end of 2009 and into early 2010 (see related stories).

The December figures confirmed the EIA-914 production data, "which showed a sequential decline of 0.5 Bcf/d for the Lower 48, marketed production fell 0.4 Bcf/d and dry gas production fell 0.5 Bcf/d," said Crandell. "Again, similarly, New Mexico and Wyoming hosted the largest production declines sequentially, falling 0.24 and 0.16 Bcf/d, respectively." Louisiana's marketed production, he noted, grew for the 12th straight month.

Anecdotal evidence pointed to a "substantial number of wells freezing off" in December, said Crandell. However, "This is a temporary phenomenon and should reverse somewhat in subsequent months to the extent freeze-offs are fixed."

Even though gas output fell month/month from November to December 2009, "all production metrics finished the year at about the same level they started; as a result, 2008-09 annual average growth was 2.3 Bcf/d across the board," Crandell noted.

Tudor, Pickering, Holt & Co. (TPH) analysts noted that EIA revised some data in the forecast back to January 2007 after issuing its 2008 Natural Gas Annual Report. The revised data lifted 2007 production (not demand) higher by 0.5 Bcf/d and revised 2008 output lower by 0.3 Bcf/d. The adjustments, said the analysts, "are still relatively minor given the U.S. is a 60 Bcf/d market."

However, the balancing item implied that there was an overstatement of supply (or understatement of demand) of 0.6 Bcf/d in 2007, 0.4 Bcf/d in 2008 and 2 Bcf/d in 2009, the TPH team noted. The EIA's figures don't appear to "clear up" the balancing item, which is a "reconciliation between the implied inventory change (from supply, demand, imports) and the actual storage change."

The revisions didn't impact 2009 numbers or the preliminary December 2009 supply/demand figures, the TPH analyst said. However, 4Q2009's balancing item "indicates a whopping 6 Bcf/d oversupply...or 2 Bcf/d larger than in 4Q2007 and 4Q2008 average balancing items. Bottom line: 2009 supply numbers are likely to be revised lower in the coming months. Meanwhile, weekly storage data is pointing to a tighter market than lagging/less accurate supply/demand data."

Barclays' Crandell noted that end-use sector demand was "heavily influenced by temperatures in December that were 6% and 11% colder than the 30-year and 10-year normal, respectively. Compared with December 2008, demand was essentially flat in the residential and commercial space (on a similar amount of heating degree days), but demand in the industrial and power sectors were each up 1.3-1.4 Bcf/d. Better comparables in the power sector likely reflect a smaller, but still present, level of coal-to-gas switching, as also hinted at in EIA's Electricity Flash report," which was released in late February.

"Skeptics will point to the size of the balancing item, at [minus] 242 Bcf, the largest ever," said Crandell. "Whereas the monthly change to stocks was a reduction of 699 Bcf, balancing the reported supply and demand components results in a withdrawal that is 242 Bcf less, or 457 Bcf. Historically, however, December does feature the largest balancing item, averaging minus 145 Bcf since 2001, which discounts the absolute size of the December 2009 balancing item."

In a recent SectorStance Monthly, analyst Rau offered some caveats about increasing industrial demand taking up the slack in excess storage.

Using "some extremely conservative 'best-case' assumptions for the U.S. natural gas supply and demand picture in 2010 that could affect overall net supply," Rau noted that the objective wasn't to predict this year's supply/demand, but rather to provide a sensitivity analysis to corroborate his forecast that U.S. gas supplies "will likely fall by very little, if at all, during 2010."

Based on his analysis of production by public and private producers, as well as industrial gas demand, "the foregoing assumptions point to a 475 Bcf increase in natural gas supply during 2010," said Rau. "That leaves the industrial sector as the last supply chain participant available to absorb the surplus.

"Higher real natural gas prices in the U.S. have reduced industrial demand over the past decade. With near-10% unemployment, it may be difficult for the U.S. economy to improve enough this year in order for industrial demand to return to the average annual 6,588 Bcf level of consumption it experienced between 2005 and 2008.

"Even if industrial gas demand were to increase by this magnitude," said the analyst, "it would add only 537 Bcf of industrial usage in 2010, scarcely enough to absorb extra supply."

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