REUTERS

U.S. gas prices must rise to rebalance market: Kemp

 

Mon Jul 18, 2016 6:33am EDT

LONDON | BY JOHN KEMP
(John Kemp is a Reuters market analyst. The views expressed are his own.)


The U.S. natural gas market is on an unsustainable course as low prices stimulate
strong growth in consumption while production is flat or falling.


U.S. power producers burned a record amount of gas last winter despite mild weather
as cheap prices and stricter environmental regulations encouraged a shift away from
coal.


Power producers burned 2,238 billion cubic feet of gas between December and
February, an increase of more than 11 percent compared with the previous winter.


Power generators are on course to burn a record amount of gas in 2016, according to
the U.S. Energy Information Administration.


The power sector accounts for around one-third of gas consumption in the United
States and its gas use is set to rise by nearly 5 percent in 2016.


At the same time, gas production is flat, or even falling slightly, as drilling falls to the
lowest level in more than 30 years.


Gas production this winter was just 2.6 percent higher than a year earlier and the
growth rate has slowed further in the first half of 2016.


Rapid growth in gas consumption is inconsistent with stagnating production. But the
imbalance has been masked by the engorged stockpiles carried over from 2015 and a
mild winter.


Gas stocks hit a record 4,009 billion cubic feet in November and were still at seasonal
record levels as winter ended in March.


But the surplus has been dwindling rapidly. In March, gas stocks were 1,014 billion
cubic feet (69 percent) above prior year levels. By July, the stock build had shrunk to
just 479 billion cubic feet (17 percent).


The year-on-year increase in gas stocks has narrowed every week for the last 17 weeks
in a clear indication that the overhang of inventories is clearing.


Gas prices will eventually have to rise to encourage more drilling and moderate further
growth in power producers’ gas combustion.


The rebalancing process will be accelerated if the winter of 2016/17 is colder than the
winter of 2015/16, which seems likely as El Nino gives way to La Nina.


As a result, hedge funds have become progressively more bullish about the outlook for
gas prices since November 2015.


Hedge funds and other money managers have accumulated a combined net long
position in the two major NYMEX and ICE futures and options contracts equivalent to
869 billion cubic feet of natural gas.


It marks a huge turn round from November 2015 when hedge funds held a combined
net short position equivalent to 1,709 billion cubic feet.


Hedge fund position-building has both anticipated and accelerated the expected
recovery in gas prices over the next 12 months.


Futures prices for gas delivered at the end of next winter in March 2017 have risen from
less than $2.50 per million British thermal units in February to around $3.25.


In the last 10 days, futures prices have eased, which looks like a correction and profittaking
after a long and sustained rally.


But it seems likely prices will need to be higher in 2017 than in 2015 and 2016 to
rebalance the market by restraining consumption growth and encouraging faster
production increases.


(Editing by David Evans)


FUTURES AND OPTIONS TRADING INVOLVE SIGNIFICANT RISK OF LOSS AND
MAY NOT BE SUITABLE FOR EVERYONE. OPTIONS, CASH AND FUTURES
MARKETS ARE SEPARATE AND DISTINCT AND DO NOT NECESSARILY
RESPOND IN THE SAME WAY TO SIMILAR MARKETS STIMULUS. A MOVEMENT
IN THE CASH MARKET WOULD NOT NECESSARILY MOVE IN TANDEM WITH THE
RELATED FUTURES & OPTIONS CONTRACT BEING OFFERED. SEASONAL
DEMAND AND CURRENT NEWS IN COMMODITIES ARE ALREADY REFLECTED
IN THE PRICE OF THE UNDERLYING FUTURES.