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Fitch Expects Long-Term Gas Prices to Gradually Fall

Although spot market natural gas prices have significantly declined, the prices of gas futures contracts remain well above the long-term price forecast and historical average prices of Fitch Ratings, analysts said in a Wholesale Power Market Update. Over the next 12 months, Fitch expects gas prices to fluctuate between $6 and $10/MMBtu. Longer-term, prices are forecast to average between $5-6/MMBtu.

The credit agency's long-term view of gas prices "continues to reflect a gradual decline" because of several factors:

"While natural gas prices continue to remain high relative to historical averages, they have come under greater pressure to trade more in line with the fundamentals of the U.S. natural gas market," Fitch analysts noted. "In fact, oil prices appear to be much less of a driver of near-term natural gas prices than they have over the past few years" Crude oil prices "have remained strong based on global supply and demand and geopolitical concerns, [but] natural gas prices have failed to follow suit."

High gas storage levels "have clearly been a key driver to the declining spot price of natural gas over the past several months," and storage balances "of this magnitude are expected to continue to put significant downward pressure on the spot market into the start of the heating season."

A "key distinction" between the crude oil and gas markets is the difference in the trends for demand, Fitch noted. Worldwide demand for crude in the past four years nearly doubled the 1972-2002 rate. However, "the exact opposite trend is occurring within the U.S. natural gas markets where demand within the residential and commercial markets remained basically flat since the early 1970s, despite a significant rise in the number of customers using the fuel." Fitch used Energy Information Administration (EIA) statistics for its report.

Although the overall trend in gas usage has been stable to falling, gas demand for power generation has been increasing, Fitch noted. "Reduction in electricity demand due to customer conservation remains a potential response to higher electric power rates. However, demand destruction and conservation have not yet emerged as a substantial trend."

If recent trends are any indication, U.S. gas consumption "will likely remain relatively flat for some time," the Fitch report noted. "For comparison, the EIA's most recent long-term forecast in December 2005 suggests that total consumption will gradually rise over the next several years at approximately 1.21% annually, peak at 26.6 Tcf (22% greater than 2005) in 2021 and remain approximately flat for the next decade.

"Of note is that the price deck behind the EIA forecast is in line with Fitch's base case, with the long-term [EIA] spot price averaging between $4.50-$5.00/MMBtu."

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