Even though a recent report by the National Association of Purchasing Managers (NAPM) has signaled that natural gas demand is moving toward recovery, industrial-related demand will “remain anemic” until inventory levels come down and production increases, according to last week’s Raymond James Energy’s Stat of the Week.

The NAPM report found that its composite index of industrial activity jumped almost 48% in August, above consensus estimates of 44% and almost 10% above July’s index of 43.6%. Some analysts have inferred that industrial sector demand is “well on its way” to a recovery, after bottoming out to 42.1% in May, and they point to a new orders index rising to 53.1%, its highest level since April 2000. With seven of the 20 industries reporting growth, some have concluded that natural gas use, which fuels many industries, will then rebound.

However, Raymond James analyst Fred Schultz noted that “what these analysts and the markets are obviously missing is that if and when these new orders arrive, they will be filled out of existing near record levels of inventory. Simply put, industrial production will not increase until these high inventory levels are brought down.” He said that if industrial out put remains depressed, then “expect industrial-related natural gas demand to remain anemic.” Schultz added that some natural gas-intensive industries like steel and metals do have declining inventory, but others “are still pushing multi-year highs, including paper and chemical industries.”

Chemical production “capabilities” also have dwindled, he said, with the Industrial Production Index for organic chemicals down 20% from a high of 120% in the fourth quarter of 2000. It most recently stood at 96%, he said. “This is important because the chemicals industry consumes more than double the amount of natural gas as the next closest industrial segment.”

How quickly industry can “unwind” its inventory is a leading question, said Schultz. “The short answer here is not very quickly. In fact…based on the latest 18-month data we could find, gas intensive industries like chemicals, paper and fabricated metals are amongst the slowest turning inventory groups measured,” and “this is one of the things that the market has been missing.” While the NAPM report signaled a possible turnaround in the metals industry, Schultz noted that “any potential recovery in demand would still be several months away as natural gas demand typically trails the NAPM index by four-to-five months.”

Schultz said Raymond James did not want to “beat the ‘bearish gas’ theme into the ground, but we need to take a realistic stance on what is transpiring in the U.S. manufacturing segments. Quite frankly, it is far from pretty.” Schultz said that in the first six months of the year, the total level of U.S. goods shipments continued to surpass the total level of new orders. “This is not good news, nor is the fact that both metrics have recently begun to show signs of declining levels.” He said, “it will certainly take some time to work these industrial inventory levels off and set the stage for a return in industrial demand and ‘new’ natural gas demand. Until then, we expect industrial demand to continue to hinder any near-term recovery in natural gas prices.”

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