Scorching summer heat, high oil prices and a weak hydropowersupply should lead to a significant increase in gas demand thisyear, according to a report issued last week by Friedman, Billings,Ramsey & Co., Inc. (FBR), a Virginia-based financialinstitution. Prices will probably increase throughout the summer,the firm predicted.

The report, titled “The Boom in the Natural Gas Markets — Factor Fiction?,” predicts that because of the recent high oil prices,many power generation facilities will switch to gas this summer. Awarmer-than-normal summer is expected. Additionally, snow-packlevels appear to be below-normal, FBR said, causing a reduction inhydroelectric power generation.

The expected strong reliance on gas should push composite spotwellhead gas prices for the year to between $2.50-$2.60/Mcf,compared to about $2.13 Mcf/d in 1999 and $2.01 Mcf/d in 1998, FBRsenior energy analyst David Khani said, adding, however, thatwellhead prices were only slightly lower in 1996 and 1997.

It is important to note that although only a small percentage ofgenerating facilities have the ability to switch fuels, switchinghas a profound effect on gas prices, FBR said. “The most importantpoint…is that short-term fuel switching can have a verypronounced effect on natural gas demand and can translate intoextreme price spikes if the relative price of natural gas ischeaper than heavy oil.” The firm points out that in thehypothetical situation where all 2,300 generating facilities withthe ability to switch from oil to gas do so, demand would increase104% from 1999 levels.

FBR added that the report differs from other forecasts in thatit does not focus on a decrease in supply as the driver of thecurrent bull market. “Our findings indicate that supply has notdropped as precipitously as many industry experts anticipated andthat demand is currently a more meaningful indicator of futurepricing.”

Overall supply declines will be a “mere” 0.7 to 0.9 Bcf/d for1999. In 2000, the firm is expecting a 1% rise in supply.

One thing working against the bulls this year is strong nucleargeneration, the FBR report added. And while gas demand estimatesfor electric generation are bullish, FBR said it believes that themarket has “overstated” the rising long-term trend gas-firedelectric generation.

Once the summer spikes are over, FBR predicts moderating gasprices. Its conservative forecast for composite wellhead prices in2001 is $2.35/Mcf. The reduction will occur, FBR said, because ofincreased production from the Gulf of Mexico and Canada over thenext few years. In the Gulf, a 900 MMcf/d increase in production isexpected for 2000. In Canada, the production is expected to rise by600 MMcf/d during this year.

“Unless [a host of bullish factors] dictate, we do not subscribeto the theory that natural gas prices will average north of$3.00/Mcf…” Instead, the firm said a realistic estimate forlong-term (over the next two to three year period) composite gasprices is $2.75/Mcf.

One aspect of the supply and demand balance that will have agrowing presence moving forward is increasing liquefied natural gas(LNG) production. Although LNG represents only 1% of total gassupply currently, FBR expects that number to triple by 2002. Thefirm said the current high prices in natural gas combined with theabundant LNG supply found in Trinidad “should promote the use ofLNG as an everyday supply source rather than strictly a peakingfuel.” The firm also noted that two more LNG facilities will bereactivating in the near future. Both Columbia’s Cove Point plantand Sonat’s Elba Island plant are undergoing the process ofreactivating. The added supply would serve to moderate pricespikes, FBR said.

John Norris

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