Barclays Capital has lifted its natural gas price forecast for the final three months of this year to $3.35/MMBtu, up from $3.00. Bank of America Merrill Lynch (BofA) last week also raised its 2013 gas price forecast.
The front of the curve "has shifted up rapidly as the market is looking ahead for a more normal winter, which would automatically push demand 2 Bcf/d higher year/year," said Barclays analyst Shiyang Wang. The market also appears to be unafraid of storage filling before the end of injection season.
When they were estimating gas prices through 2012, Barclays analysts didn't anticipate hurricane supply outages and hotter-than-normal temperatures, as well as the "unexpectedly large nuclear power outages," all of which contributed to a higher-than-expected reduction in storage during the injection season.
"As we now expect an end-of-injection-season storage level of 3.9 Tcf rather than our previous expectation of 4.1 Tcf, the notion that, once the withdrawal season starts, we only need to work off 50 Bcf of gas to close the storage differential over last year's level is causing us to become more optimistic toward 4Q2012 prices," wrote Wang.
Barclays revised upward its price forecast for 4Q2012 by 35 cents, to $3.35/MMBtu. Wang noted that Barclays' 4Q2012 price forecast "remains well below where the curve is now, as we believe the market is still not pricing in the latent supply that could render production more than anticipated, while the incremental loss of coal displacement due to higher gas prices will also reduce power demand."
Coal displacement "still needs to take place at the rate of 4.5 Bcf/d (above 2008 levels), on average, during 4Q2012 to avoid last year's end-of-March storage ending (2.4 Tcf) that pressured prices below $2 in April," wrote the Barclays analyst. Therefore, in our view, unless we experience a colder-than-normal winter, prices cannot consistently stay above $3.50 throughout 4Q2012."
Gas producers continued to add hedges for 3Q2012 and into 2013 despite the "anemic" prices in the second half of this year and a pessimistic outlook for 2013.
"Producers are just as well hedged for 2013 this year as they were for 2012 last year," Wang said. However, even with the hedges, operators "are unlikely to shift back to drilling gas next year as the promises to investors to shift to oil and liquids instead would be very difficult to reverse, in our view. We believe the following year calendar prices need to reach $4.00-4.50 for some producers to shift back to drilling gas again."
If producers are well hedged, said Wang, they are more likely to drill and commit to production growth targets even with weak prices. Barclays analysts still believe "good hedging opportunities will rarely present themselves for 4Q2012 and 2013, as we do not see a significant recovery in prices any time soon. Therefore, in our view, producers should seize hedging opportunities whenever prices dislocate from underlying fundamentals due to short-term bullish factors such as weather or temporary supply disruptions."
With natural gas stocks at levels below the seasonal norm after a summer of market rebalancing, BofA analysts raised their 2013 average gas price forecast by 25 cents to $3.75/MMBtu.
"In periods of temporary tightness, we could see spot prices briefly spiking above $4.00/MMBtu," they said in a note. "We see little upside to forward prices next year as structural consumption still has to catch up with supply. In our view, U.S. natgas output remains too high, and we expect 0.2 Bcf/d of growth next year."
Producers are dropping rigs in high-cost plays but are drilling more in lower-cost areas where there is high liquids content, areas such as the southwestern Marcellus Shale and the Eagle Ford in South Texas, noted the BofA team.
"Factoring in efficiency gains, gas supply from liquid shales is expanding strongly. Thus the market is subject to a tug of war between production falling fast in dry gas shale areas and growing quickly in lower-cost areas with a high liquid content." On the demand side, coal-to-gas switching is expected to decline by 1.8 Bcf/d as gas production slows and prices rise. Total gas demand is expected to contract by 0.6 Bcf/d and inventories are forecast be elevated next year.
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