High natural gas prices and narrowed spark spreads in some regions hurt the second quarter performance of gas-fired generators, but should benefit the results of companies with exploration and production (E&P) components, according to a report by CreditSights analysts.

Integrated energy merchants with E&P operations, such as Dominion and El Paso Corp., were able to sell their unhedged gas at “blockbuster prices” in the second quarter, especially in April and May when there was an unexpected need for heating, said analysts Dot Matthews and Andy DeVries. Dominion had hedged 80% of its expected 2003 output by March, “so the contribution of high gas prices to the bottom line will be welcome, but less than if it had followed a less prudent policy and hedged less.”

On the other hand, El Paso began “consciously reducing the amount of gas hedged last year,” which was a risky strategy but it saved capital and worked well for the company in the first quarter. “We expect El Paso to do quite well on the gas side, and to bring in much-needed cash” in the second quarter, said analysts.

On the other side of gas prices are the gas-fired generators, and the analysts noted that spark spreads were up in Texas and also at Palo Verde. “Since the second quarter is a shoulder quarter lower usage means fewer gas plants running anyway, except in Texas, where gas is always on the margin and is picking up the nuclear slack. With some exceptions, spark spreads have simply not kept up with rising prices…therefore, most of the benefit of the higher prices is going to the hydro, coal and nuclear generators.”

Gong forward, high natural gas prices “are a problem for generators and consumers alike,” said CreditSights. “In times of high demand, the cost of turning on some gas-fired plants could cause price spikes. The growing concerns about natural gas shortages in the U.S. may force the government to back clean coal or even nuclear construction, to the detriment of all those newly constructed gas-fired plants.”

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