Canadians expect to make a positive contribution to natural gas prices in the new year — by producing less, consuming more and reducing exports to the United States as a result.

Canadian supplies available on the international gas market will shrink noticeably by the second half of 2007, predict industry analysts at Calgary investment houses Peters & Co. and FirstEnergy Capital Corp. Forecasts of cuts to U.S. exports range as high as 1 Bcf/d or about 10% of Canadian pipeline deliveries to the United States.

On the supply side, drilling is tapering off compared to last winter. Activity in the western provinces — chiefly in Alberta, which accounts for four-fifths of Canadian gas production — appears to be headed down by as much as one-third.

Part of the credit goes to sharply reduced prices. Gas is trading at the AECO storage hub in the range of C$6 to $7/Mcf (US$5.20 to $6.10) or barely half of the peaks hit last winter during the first major cold snap following the damage from the 2005 hurricane season.

But a Canadian industry-wide desire to bring costs under control, by reducing competition for equipment and labor, is also making a significant contribution to the reduced activity level. Double-digit increases in fees for field services such as drilling rigs and well completion work prompted the Canadian Association of Petroleum Producers to call the 2005-06 work season a time of “hyper-inflation.”

A survey by Peters found that the industry leaders — “large-cap” independents and the integrated companies — have cut their gas budgets by a total of about C$2 billion (US$1.7 billion) or 20% to C$8 billion (US$7 billion) for 2007. Spending by the integrated companies is up slightly due largely to contrarian plans by Shell Canada to accelerate deep drilling. But that increase was more than matched by cuts among large-cap companies such as EnCana, Canadian Natural Resources, Nexen and Anadarko.

The Peters analysts forecast the benchmark indicator of supply-side activity, drilling rig usage, will drop into the range of 60% to 65% or an average of 510-553 active units in first-quarter 2007. At the frenzied peak of Canadian gas field activity a year earlier, rig employment stayed at 90% or 688 continuously active units. Winter is always Canada’s busy season, as the time when northern muskeg freezes and heavy equipment can move freely on roads and through woods that turn into bogs in spring or rainy periods.

The result will be a drop in Canadian production capacity of about 330 MMcf/d or 2% by second-half of 2007, Peters predicts. The total production loss will be larger to the extent that smaller companies also cut drilling activity, although their decisions have less effect on overall Canadian industry performance.

At FirstEnergy, where analysts are less conservative and more willing to make predictions, “a growing negative supply trend” is being forecast. Production capacity losses are showing potential to hit 800 MMcf/d or 5% by mid-2007, the investment house says.

“We believe that the developing Canadian supply and exort story remains little discussed and under-appreciated in terms of its eventual price-bullish impact on 2007,” FirstEnergy said in a research note.

At the same time as drilling tapers off, FirstEnergy’s analysts point out gas consumption by oilsands projects is on the rise. Fuel use for thermal bitumen extraction has jumped by about 300 MMcf/d in recent months and will continue to grow as additional oil projects now under construction come on stream, the investment house points out.

Persistently high oil prices are adding to the downward pressure on gas supplies by prompting Canadian companies to switch drilling targets, the analysts suggest.

“The net impact of less supply and more demand is a simple reduction in available natural gas volumes for export that could reach as much as 1 Bcf/d by mid-2007,” FirstEnergy estimated. Such a large reduction of pipeline deliveries — which would approach a 10% cut in Canadian exports to the U.S. — is bound to be noticed eventually by the international market, the firm predicted, adding it is thinking about raising its 2007 gas price forecasts.

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