U.S. natural gas prices have teased traders this year after the price surge in the spring, but a "more durable problem" remains, according to Stephen Smith Energy Associates.
In the latest monthly update, Smith and his team took a look what's been going on in the domestic gas markets. Prices rallied earlier this year on cold weather and the expectations for a hot summer, but that hot summer in the prime cooling markets hasn't materialized, analysts noted.
"Mild weather has been part of the problem: only four of the last 15 weeks have had total degree-days higher than normal," Smith said. The "more durable problem" has to do with gas-to-coal switching, as power generators at the $3.75/MMBtu price "tend to promptly reduce gas-fired generation in favor of coal.
"Long-term gas investors are understandably optimistic about prospects for long-term industrial and power generation demand growth, exports to Mexico and liquefied natural gas exports. But in the near-term, including the year 2014, it appears likely that weather-driven gas price rallies into the $4.00-plus range are likely to be short-lived unless the flat gas production pattern of the last year begins to show some weakness (possible, but not our most likely case)."
The domestic gas storage surplus relative to 2006-2010 weekly norms fell from a surplus of 463 Bcf on Feb. 15 to "near zero" on April 26 "and it has remained near zero ever since," Smith noted. A gas rally followed after April 26, but since then, "the sub- to near-normal degree days and near flat storage surplus: has eroded prices. A November storage peak in the neighborhood of 3,800 Bcf now appears likely."
For the last nine months "onshore gross production has been essentially flat," the Smith analysts said. Between October 2011 and this past May, gas production essentially has been unchanged, following several years of growth driven by the unconventional gas drilling boom. The boom topped out in September 2011, but several things have supported peak gas production since:
Oil-directed drilling surged as gas-directed drilling collapsed, and some oily plays produce significant gas;
Substantial infrastructural "lag effects" deferred initial gas production until long after the horizontal gas drilling boom slowed. The effects included wells drilled but waiting on hydraulic fracturing, delayed well hook-ups and expansion of gathering lines and larger pipeline construction expansions, particularly in the Marcellus Shale.
The Stephen Smith analysts looked at various state gas-makers to explain how the ups-and-downs in infrastructure buildout have affected gas production trends. They also compared total rig counts for each of the five largest states, or "logical groupings of states," such as the Marcellus/Utica shales.
"Infrastructural lags continue to be an important driver of Marcellus production growth (completions from an inventory of 'wells waiting on completion' and a large backlog of new gathering lines, processing plants, and major pipeline expansions)," they said. "For this reason, quarter-to-quarter changes in rig counts are particularly poor predictors of production trends."