The industry rumblings of a declining gas supply are not far offbase, said a report by David Pursell, an analyst for theinstitutional securities group Simmons & Co. Intl. Judging fromweekly American Gas Association (AGA) storage data and Departmentof Energy (DOE) LNG production figures, the report forecast the gasdecline rate could surpass 4% in the coming months when compared tolast year, unless a sharp increase in gas-directed drilling takesplace. Using these findings, Pursell said gas prices should stayabove $2/Mcf for the near future.

According to the study, the disappearance of the storageoverhang over the past five months indicates an improvement insupply and demand fundamentals. It said the average injection inJune was 0.9 Bcf/day lower than June of 1998’s level. At this rate,1999 will end with a 1.2 Bcf lower gas supply than 1998.

“It seems apparent that the fundamentals are significantlyimproved from a year ago,” Pursell said in the report. “Afterwatching the storage overhang disappear over the last few months,it was tempting to pound the table and say that we clearly have theonset of a supply problem.”

What convinced Pursell to pound the table was the DOE’s LNGproduction report, which found that despite an economic incentiveto process gas from liquids, producers did not do so. Due tounfavorable frac-spreads (the theoretical gross margin forprocessing liquids from the gas stream), last April was the firstmonth where producers had an economic incentive to remove gas fromliquids compared to the same period in 1998. The frac-spread inApril of 1998 was .83 compared to 1.37 in April of 1999. Yetdespite this incentive, LNG production declined in April from 1,859kop/d in 1998 to 1,786 kop/d in 1999.

“The decline in April 1999 NGL production is the first solidevidence that U.S. gas production is declining at least 3.9% fromprior year levels.”

The $2/Mcf price forecast is projected over a flat demandenvironment (year-on-year). They could go even higher, Pursellsaid, depending on several factors including the drilling responseto shortened supply, summer heat, tropical weather in the Gulf ofMexico and a strong winter.

The study noted that the most definitive indicator of supplylevels is gas well production data, but due to the enormity of thetask required to collect all those numbers, a significant data lagtime exists. Moving forward, Pursell said storage data and LNGproduction will become more prominent tools to shed light on supplyand demand balances.

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