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Raymond James: 2009 Gas Market 'Hosed,' 2010 Rally 'At Serious Risk'

June 15, 2009
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Even with an anticipated 70% cut to the U.S. natural gas rig count and an increasing number of uncompleted wells and summer shut-ins, domestic supply won't fall fast enough to solve the overcapacity problem this year, analysts with Raymond James & Associates Inc. said last week.

Analysts J. Marshall Adkins and John Fitzgerald said they are more bearish about prospects for U.S. gas prices than they were in April, when the Raymond James duo revised their 2009 U.S. rig count assumptions lower and estimated that U.S. gas supplies would fall more than 6 Bcf/d by late this year.

At that time, the analysts said the deterioration in U.S. gas supplies could vary "sharply" depending on the:

A "modest" amount of high grading, coupled with a 30% overall U.S. gas well decline rate, had been expected to drive down gas supplies enough to set up a bullish backdrop for 2010 gas prices. However, based on two more months of U.S. gas production data, the analysts "now think that the effects of high grading could be greater, decline rates lower and overall production deterioration less than we initially expected."

The margin for error "remains very large," but year/year (y/y) gas supplies now are forecast to "trough down 5 Bcf/d or less in late 2009," said the analysts. Based on the new assumptions, Adkins and Fitzgerald don't anticipate U.S. gas production to turn negative y/y until June data are reported.

"It also means that the 2009 natural gas market is still hosed," they wrote. "This summer prices must move low enough to force an additional 250-500 Bcf of shut-ins (depending upon gas storage capacity). More importantly, this new data plants a seed of doubt regarding a potential 2010 rebound in U.S. natural gas prices."

If U.S. gas supplies only fall 3-5 Bcf/d, "then the natural gas market is still in jeopardy of being oversupplied next year..."

Low gas prices and lack of available credit have forced exploration and production (E&P) companies to cut budgets, reduce their rig count and attempt to drill within cash flows. However, there's a problem with only reducing budgets and rig counts, said the Raymond James team.

"One glaring problem is that publicly traded E&P firms have yet to significantly reduce production forecasts," noted the analysts. "For 2009 independent E&Ps are guiding to cut capex [capital expenditures] by an average of 40% y/y but still grow gas production by 6% y/y. How will that work? Keep in mind that these estimates are largely driven by company guidance and do not include storage-related shut-ins that we expect to happen this summer."

One thing is clear to the Raymond James duo: gas prices are poised to head lower this summer.

Some Wall Street pundits are calling for a "huge sustained natural gas rally by late 2009/early 2010 due to the resulting fall in production," said Adkins and Fitzgerald. "Unfortunately, our best guess right now is that if new production declines only 50% (or 5 Bcf/d y/y), the natural gas market is still at risk of being oversupplied next year, putting the 'inevitable' rally at serious risk."

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