With prices remaining high and conventional supply sources drying up, U.S. producers are finding themselves in a tough situation, where a tightening supply crisis might force prices even higher in the next few years

Speaking at the annual LDC Forum in Chicago, Dr. Jim Duncan, director of structured products for ConocoPhillips Gas & Power, said “The reality of this marketplace is that the perception of this market is going to drive the price, and that is a hard thing to grasp because it is not mathematical. I am not concerned at all about supply starting about 10 years from now…” however, “I am extremely concerned about the short-term supply in the natural gas market.” He said that while there are a number of ways to supply the marketplace in the long term, the short-term has no such answers.

Duncan said the current situation shows that 60-70% of gas supply to the North American continent is produced by small and medium sized independent drillers, which continue to drill the same declining plays. “There’s no new gas,” he said. “There are no new big finds. We are sticking the holes into the same bag of gas, which only drains the bag of gas faster. It’s not hard to see that if we drain the gas out of the same formations, eventually, that productivity will go down.”

Adding to the short-term supply problem is the expense. From talking to a number of these producers on a regular basis, Duncan said the response he keeps getting is ‘we can’t afford it,’ noting that each well costs approximately $1 million. “One year ago, these people were drilling 10 wells, where they are drilling one well this year.”

Looking at new supply sources, Duncan listed the usual suspects, such as the currently off-limit areas of ANWR, the Mackenzie Delta, Florida Gulf of Mexico and on the East Coast. He also said increased coalbed methane, LNG and increased Canadian imports are necessary.

Debating the Canadian import point, Steve Becker, vice president of TransCanada’s gas development east unit, said Canada won’t have the gas to lend soon. He said the U.S. needs to replace the annual decline in supply of 14 Bcf/d, but Canada is not the answer, as gas demand in Western Canada is forecasted to grow by 2.9 Bcf/d by 2015 for electric generation and oil sands growth.

To solve the domestic supply crunch, Becker said the U.S. must rely on LNG for the next four winters and focus on new build pipelines from the Arctic in the long term. To build such expensive projects (Mackenzie $2 billion; Alaskan line $15-20 billion), Becker said pipelines and producers need:

As for supply this coming winter, storage should rebound to the 3 Tcf “full” level by the end of the fill season without problem due to demand destruction, according to Fred Hunzeker, president of Tenaska Marketing Ventures.

Speaking at the forum, Hunzeker said “3 Tcf is not going to be a problem, I even think we are going to get back to 3.1 Tcf before it is all done.” He also noted the uncertainty involved relating to rumors currently swirling around the industry that allege the EIA’s current storage numbers might be understated by 50-150 Bcf.

Hunzeker said that high prices, high demand and high volatility this summer led to approximately 2-4.7 Bcf/d in demand destruction, coming mostly from the chemical industry. “Consensus among the analysts is that we are going to be down about 3-5% total demand in the U.S. this year, so prices have shown a response that the market is elastic,” he said.

Borrowing a quote from a Lehman Brothers’ analyst in April, Hunzeker, said “The key determinant of U.S. natural gas prices has become the price that customers can bear, rather than the price that producers need to earn a return.”

As for liquefied natural gas coming to the rescue, Hunzeker said LNG by 2007 might be making up about 10% of the gas in the U.S. marketplace.

Stating that the current high prices are “not a bad dream,” Hunzeker said we are now “in a world of volatility. It is here to live with and manage.” He warned that the worst thing we can do as an industry is to crawl in a foxhole and hide. “If we take assets off of the marketplace, all we are going to do is increase the volatility and increase the costs of these products. The companies that respond and actively manage their risk and volatility, are going to profit from this environment. The companies that don’t, that crawl in the hole, are the ones that will suffer the pain.”

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