SSB's Morris Sees Sub-$4 Averages this Spring, Fall

In the near-term, gas prices could easily drop below $4/MMBtu because of the rapid rise in storage levels this spring. But summer prices likely will spike above $6, and the long-term forecast shows prices will average between $4 and $5, said Robert Morris of Salomon Smith Barney at NGI's GasMart/Power in Tampa last week. However, Morris doesn't expect recurring winter peaks above $10/MMBtu.

The pace of the gas storage refill is changing the near-term market picture, he noted. Storage injections this year have averaged 7 Bcf/d greater than last year and are rapidly chipping away at what had been a massive year-on-year deficit. At the end of March, there was a deficit of 400 Bcf, but today it stands around 160 Bcf. "At this pace, unless some of the [4 Bcf/d in lost] demand comes back to natural gas --- and we haven't seen that yet --- we could see the year-over-year storage deficit eliminated perhaps by the end of May, but certainly, even with moderation, by the end of June."

If injections maintain their rapid pace and storage levels reach 3,000 Bcf or higher versus just under 2,800 Bcf last November, "I think natural gas prices will dip back below $4 in the third quarter," said Morris. The higher storage levels go, the less likely there will be price spikes above $6 this summer and near $10 next winter.

He said the reason gas prices spiked so sharply last winter was because of the "perception that we were going to physically run out of gas because of low storage levels." That perception is unlikely to return unless record cold winter weather and low storage levels conspire again to trigger it, he said.

However, the long-term curve on gas prices is rising. The average natural gas rig operating two years ago yielded production in its first year of about 22 MMcf/d, but today rig efficiency has declined to around 10 MMcf/d in the first year, said Morris. That drop in production per rig has led to a step change in market economics that will hold gas prices at an average of between $4 and $5/MMBtu for the foreseeable future, he said.

Despite a rig count of about 975 compared to a record high before last year of only about 650, first quarter production, as reported by the top 40 producers, was up about 1.7% versus the fourth quarter. But that increase is "really a combination of what is a true production response to drilling and a response and what is somewhat artificial bypassing of processing," he said. "That's an increase of about 300 MMcf/d from drilling but also about 550 MMcf/d from not processing the gas because gas prices are so high. A lot of producers are bypassing the processing plants so more Btus have been left in the gas stream."

Furthermore, the industry is not likely to get much incremental supply help from new sources such as Alaska and imported liquefied natural gas for several years. "We're not going to get any help from Alaska, LNG or any other supply source for at least four to five years," said Morris. "As far as any imports augmenting our supply in the next couple years, we really don't see an impact from Canada or from LNG." Morris said he doesn't expect to see any pipeline to Alaska or the Northwest Territories until 2007 at the earliest. He said proposed LNG facilities also will take about five years.

"We've got a pretty tough road ahead. Supply and demand are very tight. The bottom line is, we are not going to go back to the environment we had prior to last year when we averaged $2 to $2.25 for natural gas. I firmly believe that we stepped up to a new level here, and going forward you're going to see gas prices at a much higher levels with averages sustained between $4 and $5.

"Fifty years ago we were drilling big structures, Goodyear Blimps. When you punch a hole in Goodyear Blimp, 30 minutes later that flow of air is still very strong. Today we're drilling beach balls. When you punch a hole in a beach ball, 30 minutes later it's deflated. That's what's occurring here."

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