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Summer to Cool Down -- or Heat Up -- U.S. Gas Market

Summer weather -- and the U.S. economy -- may be the most important factors affecting the natural gas market over the coming six months, according to energy analysts.

In an Energy Special Report, Lehman Brothers analysts Daniel Guertin and Edward Morse noted that the U.S. withdrawal season ended with 1.23 Tcf in storage, which was close to the five-year average but 360 Bcf lower than in 2007 and 470 Bcf below the 2006 level.

"The summer fill season will become more critical for winter 2008-09 U.S. natural gas balances," wrote Guertin and Morse. "The pressure that has been building for some time to bring natural gas and oil prices back toward their historical relationships will likely continue." Pressures "in both the prompt and deferred markets appear to be restoring traditional links between natural gas and crude oil, and between natural gas and heating oil...Continued convergence between the two prices should increase if the storage shortfall against last year continues to widen."

In the first three months of 2008 natural gas "was the commodity with the highest price gains, outpacing all exchange-traded metals, agriculture and energy products," wrote the Lehman analysts. "Unexpected supply and demand conditions, combined with a fairly bearish market consensus at the outset, made for a market that was ripe for flaring."

Part of the "unexpected" turn in the market had to do with global gas supply, they said. At the beginning of winter Lehman had forecast that an emerging global liquefied natural gas (LNG) supply glut would lead to higher U.S. imports -- about 2 Bcf/d more than LNG imports in 4Q2007 or 1Q2008. However, LNG imports actually averaged 0.86 Bcf/d in the two quarters because of the tightening global market.

Combined with fewer LNG imports was the "unexpected pull" on heating oil and gas inventories in the last half of the heating season, said Guertin and Morse.

"Instead of projections for well-above-normal natural gas stocks for the end of the withdrawal season, stocks stand at five-year averages, calling into question whether, at current prices, sufficient storage will be added this summer to meet next winter's projected demand," they wrote.

The severity of summer temperatures -- and possible consequences from major storms on oil and gas infrastructure in the Gulf of Mexico -- may have "a major bearing on U.S. and global fundamental balances" in 3Q2008 and early 4Q2008, said the analysts. However, determining possible hurricane scenarios at this point is "fairly meaningless." On average, hurricane seasons "are likely to result in a 9 million b/d loss over a 60-day period (150,000 b/d) and a shutting in of 60 Bcf of output (1 Bcf/d)."

The Lehman analysts will be watching several weather trends in the coming months, which they said could impact the gas storage picture later this fall:

"On a comparison basis, this summer should be cooler than last summer and the 10-year average, but warmer than the 30-year average," wrote Guertin and Morse.

Ron Denhardt, vice president of Natural Gas Services for Strategic Energy & Economic Research Inc. (SEER), also pointed to the state of the economy and summer temperatures on what may impact gas prices going forward.

"The downside risks for oil and natural gas prices are actions to strengthen the dollar, mild weather and a deeper recession than projected by most," Denhardt wrote in the latest Natural Gas SEER Monthly.

Liquidity problems and the U.S. housing market crisis "provide the potential for the economic outlook being substantially worse than expected by most economists," he said. SEER's projected supply demands for gas "continue to assume gas-weighted cooling degree days (CDD) will be 5% greater than normal." SEER also is forecasting a decline in LNG imports based on strong overseas demand.

The "LNG market looks very tight through 2012," said Denhardt. And a drop in Canadian gas imports still is expected because of declining output.

In any case, "natural gas prices are still low relative to their historic relationship with oil," Denhardt noted. "The major downside risk for natural gas prices is the potential for lower oil prices from weak economic growth and the possibility that high gas prices will cause a very strong demand response."

Assuming an average "post-war recession" and CDDs 5% higher than normal, SEER estimated that Henry Hub prices would average $10.20/MMBtu during the nonheating season. That compares to an average price of $6.88/MMBtu in 2007.

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