Lehman Raises Gas Price Forecast for 2001, 2002

Due to cold weather and falling U.S. production, it is likely that the oil and gas industry will not be able to refill natural gas storage for the winter of 2001-2002, according to a Lehman Brothers exploration and production update released last week. The low storage levels will likely force gas prices higher for a prolonged period of time, the report stated.

The firm expects working gas inventory levels to be at 200-400 Bcf at the end of the traditional heating season, compared to the five-year average of 968 Bcf. Due to this shortfall, the company expects that inventories will not be built up to necessary levels, and will be "uncomfortably low" going into next winter. Lehman Brothers forecasts that this will keep natural gas prices pegged higher going into 2002.

Because of this forecast, the company is raising its 2001 gas price forecast from $5/MMBtu to $6.25/MMBtu. Likewise, it has bumped its 2002 price forecast from $4.15/MMBtu to $4.50/MMBtu. The firm believes with production dropping almost 7% over the past three years, that it is now back at 1990 levels, and probably reached the bottom of the trough during the third quarter 2000. Unlike many investors who believe production will rise quickly in 2001, Lehman Brothers predicts a much slower growth in 2001, a 1-2% increase in 2001. The firm reiterates its "Buy" recommendations on Anadarko, Apache, Devon Energy and Ocean Energy.

The firm offers the theory of "demand destruction" as a possible way of balancing the sporadic gas market. Demand destruction refers to customers cutting back consumption due to high energy prices. For the fourth quarter, the company estimates heating demand increased by 564 Bcf compared to the same period during 1999.

The analysts pointed out that the demand growth was not met with supply growth, but instead came from an additional 301 Bcf withdrawal from storage along with a 263 Bcf decrease in non-heating consumption due to prices. With a first quarter average price of $8-10/MMBtu, it is likely that more demand destruction will take place.

Alex Steis

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