The Energy Information Administration (EIA) said in its June Short Term Energy Outlook that gas production should be down more than 3% this year and supply concerns, though overblown, have been the root cause of prices remaining above $3/MMBtu (EIA said nothing of the liquidity crisis in the market, which may be pushing prices higher — see related story). It also expects the storage surplus to fill in for any supply declines on the production side.

“Rising world oil prices and a strengthened economy will reduce competitive pressure on natural gas prices, but given the current relatively weak demand-side fundamentals, we would have expected prices to be somewhat lower,” EIA said. “There has been some anxiety within the industry that natural gas production capacity has been decreasing, resulting in a diminished supply picture for, at least, the short-term. A lack of spare capacity seems dubious to us at this time, given the overall resource development efforts of the past 10-18 months.

“If the summer turns out to be mild and the incremental demand for gas-fired electricity generation (to run air-conditioners) turns out to be moderate, the wellhead price could once more dip below $3.00 per thousand cubic feet.” EIA said it expects an annual average natural gas wellhead price of $2.90/Mcf compared to $4.10 last year. In 2003, lower levels of gas in storage, continuing economic growth and rising oil prices are expected to drive gas prices higher to about $3.30 on average at the wellhead.

EIA noted that at the end of May, storage levels were 20% above the previous five-year average. “We maintain the belief that a downward correction to below $3.00/Mcf is likely in the next two-three months if summer weather is normal or cooler than normal,” the agency said.

First quarter results showed domestic gas production down 3-4% (some of this decline may have been due to asset sales). “Lower natural gas prices have reduced production and resource development incentives from their highs of last summer. Still, current supplies, including natural gas in storage, appear to be at very comfortable levels,” EIA said. “Gas-directed drilling, while down sharply from summer 2001 levels is still quite strong by a longer historical perspective.”

Gas drilling activity has fallen along with production. Baker Hughes reported average active rigs drilling for natural gas at 721 on May 31, 30% below the year-ago level and 32% below the peak seen in the current drilling cycle, which occurred during the week of July 13, 2001. However, this latest posting, while down slightly from the previous week, is 22% above the recent low of 591 posted for the week of April 5, 2002, EIA noted.

“Aggregate lease revenues from domestic oil and gas production are expected to move up this year and settle at about $340 million per month in 2003, which would be a 40% increase over the rates seen at the end of 2001,” the agency said. “Inasmuch as these revenues are a strong determinant of industry cash flow, which in turn is a powerful driver of drilling activity levels, an upward trend in drilling levels generally (and natural gas-directed drilling in particular) is anticipated for this year and into 2003. Thus, natural gas drilling rates appear to be at the beginning of a rise in the current drilling cycle.”

Gas imports have been dropping but are projected to recover by November as gas demand recovers. Storage is expected to remain above average levels right up through the beginning of the next heating season.

Gas demand is projected to increase by 3.2% this year compared to 2001 levels, and increase by another 3% in 2003. Rising demand for natural gas in the industrial sector and electricity generating sectors is the primary reason for this growth rate in 2002. This summer, gas demand is projected to be 4.7% above last summer’s level due mainly to the fall in natural gas prices since a year ago and the slowly reviving economy. In 2003, growth is expected across all sectors.

This summer, total electricity demand is expected to grow by less than 1% over last summer’s demand level, following an actual decline in summer demand last year. Cooling degree-days (CDDs) for the season (April through September), based on CDDs thus far, are assumed to be at around the same level as last year, which was about 2% above normal. The economy is expected to grow through the summer months and year-over-year increases in industrial output are expected to show up sometime during the third quarter. Power demand is expected to be flat this year but the third quarter should show some growth, and next year EIA expects power demand to be up 2.4% as the economy revives.

In 2001, total hydropower generation was down to lows not seen since 1966. In 2002, total hydro generation is expected to rise by 22% if normal precipitation materializes in the Pacific Northwest, the main region affected. Total oil-fired generation is projected to be down considerably, by 23% from last year due to higher relative prices, while total gas-fired generation is projected to be about what it was last year. Nuclear generation is expected to be up by about 0.9% in 2002 and rise again by 0.7% in 2003, due mainly to increased efficiencies.

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