Lehman Brothers Runs with the Bulls

Record high spot prices, cold weather and bullish supply and demand projections prompted Lehman Brothers to raise by about 20% its Henry Hub spot gas price forecast for both 2001 and 2002.

"It looks like we're still working at pushing a large rock up a steep hill," said Lehman Brothers analyst Rick Gross. "We just haven't seen the things you would expect to see as precursors to a reversal in the strong price environment, and that would include a much stronger supply response, a stumble into the heating season with warm weather and those kind of things."

The weather has been colder than normal to date and the storage deficit compared to levels at the same time last year has widened to 500 Bcf, Gross noted. "We think that the short-term forecast is such that we're going to see that gap widen by the end of December. We think it's going to be in the 600 Bcf [area]."

Despite the expected continuation of normal and below normal temperatures across many major markets over the next six to 10 days, Gross noted that it is still too early in the heating season to foresee potential delivery problems. Although storage levels are low compared to last year, there still is plenty of gas in storage available to meet near-term peaking needs. The real problem could come at the end of the winter if storage levels are extremely low and there is another cold snap.

"We're looking at an exit rate for storage [at the end of the winter heating season in April 2001] at very low levels," he said. "We have internal debate, but we think it will be around 400-500 Bcf [of working gas]. And the ability to replenish it next summer is going to be difficult given that we've still got a reasonably strong economy, and we've got some more power needs with some new capacity coming on. We wouldn't be surprised if we see going into next heating season that inventories are in the 2,400 to 2,500 Bcf range, which is even thinner than this year."

Despite a gas rig count that is 30% higher than the same time last year, Lehman Brothers is not expecting a huge supply reaction to the current record prices, said Gross. "Basically what we're looking at is a supply response from greater drilling activity but insufficient to meet growing demand and replenish depleted inventory."

Gross raised his Henry Hub spot price forecast from $4.20 to $5 for 2001 and from $3.50 to $4.15 for 2002. "Obviously the [12-month] strip has blown through those numbers for both years, but we've been reluctant to chase the strip. We've had very high gas price forecasts since last May relative to many of our counterparts. Obviously the strip can get fairly emotional when it's moving a buck a day. Usually we have seasonal differences in our forecast compared to the strip. It was about $5.70 on Monday," he noted.

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