The Key to Natural Gas & Electricity Rates in 2014

In this Energy Alert I will discuss Natural Gas and Electricity recent price history, and factors that may influence rates going forward. I refer to Natural Gas and Electricity together because of their high price correlation.

1. Natural Gas and Electricity’s recent price history.

The price of a commodity is largely determined by supply/demand, which is measured by changes in supplies. Changes in production caused by the influence of fracking technology in 2011 and the warmest winter in 100 years in the high demand areas of the U.S. in 2011/12 resulted in the highest natural gas inventory levels in history; and subsequently natural gas prices reached a 10 year low in the spring of 2012. Over the last year in my Energy Alerts I discussed the implications of low natural gas prices from a historical and cyclical basis.

In my January 3rd Energy Alert I pointed out markets trade cyclically as suppliers restrain production when prices are low and users increase demand until prices swing to higher levels. I said we were experiencing this phenomenon at the present time as demand for Natural Gas was increasing faster than production. Natural Gas storage levels as of 1/3/14 were 9% below the five-year average. We were entering the winter heating season with relatively low inventory levels, and I warned the drawdown in natural gas supplies was about to accelerate due to the extremely cold weather heading into the high demand areas early in January.

We became familiar with the term “Polar Vortex” as repeated cold snaps this past winter placed an enormous strain on our natural gas reserves as reported each week by the U.S. Energy Information Administration (EIA), and Natural Gas and Electricity rates sharply increased. By the end of the winter heating season inventories of Natural Gas were at 822 Bcf, which was 54.7% below the five-year average of 1,814 Bcf. The deficit of 992 Bcf (1,814 – 822) was a huge deficit for us to face at the start of the injection period beginning on April 1st.

2. Factors influencing rates going forward.

The most important factor determining natural gas and electricity rates going forward will be the injection rate of Natural Gas as reported by the EIA each week.

The injection period for Natural Gas begins in April and runs until the end of October. Replenishing inventories back to the five-year average before winter will not be possible unless weekly injections quickly move into an over-performance pattern and thus far we are getting off to a disappointing start. The EIA announced today an injection of 74 Bcf, which on the surface seems impressive, but if you look more deeply at the numbers they are troubling. After 5 weeks of injections we are still nearly 1,000 Bcf below the five year moving average. Natural Gas inventories are presently at 1,055 Bcf and the five-year average is 2,037, which means we still have a deficit of 982 Bcf (2,037 – 1055).

In my April 10th Video Alert I stated we normally have approximately 3,800 Bcf in storage when the winter heating season begins on Nov 1st.. As of April 4th we had 826 Bcf in storage, which meant we needed to inject nearly 3,000 Bcf to replenish supplies by winter. To put this into perspective, we needed to average approximately 99 Bcf per week until the end of October. Last year we produced a record amount of natural gas and experienced a very mild summer and the average injection rate was 70 Bcf per week. Therefore, injections needed to increase at a rate of more than 40% over last year to rebuild inventories prior to next winter. Natural Gas’s production potentially can increase above last year’s record pace, but if we do not have a mild summer like last year, and as forecasted by many meteorologists we experience a warmer than normal summer the likelihood of rebuilding supplies prior to next winter is slim to none.

And the mountain we need to climb is getting steeper. Due to the disappointing start of the first 5 weeks of the injection period the injection rate needs to increase even more than my previous estimate of 99 Bcf. After today’s report we now need an average injection rate of approximately 105 Bcf (3,800 – 1,055 = 2,745 divided by 26 weeks = 105 Bcf per week) to rebuild inventory levels by the end of October. Therefore, at this point injections must increase by 50% over last year’s injection rate of 70 Bcf. We will continue to monitor the injection rate closely throughout the year, and the following 3 risk factors are of particular interest:

1. Any disruptions in Natural Gas production due to storm activity over the next 6 months will hinder suppliers’ ability to rebuild supplies prior to next winter’s heating season.

2. A warmer than normal summer will increase end user demand thereby hindering suppliers’ ability to rebuild supplies prior to next winter’s heating season.

3. The failure of Natural Gas injections to increase at an unprecedented rate so inventory levels can be rebuilt prior to next winter.

Any of the 3 above risk factors could spark a rally in Natural Gas AND Electricity rates to levels above what we experienced last winter. No one knows precisely when the energy markets will again spike upward, but obviously the upside risk near-term is substantial, which is why it is in your best interest to be working closely with an energy consultant at this time. Injections should increase over the next month prior to the summer cooling season taking effect, and it is possible the market may experience a shallow pullback. But it is important to understand due to the above risk factors I believe any pullback over the next 4 to 6 weeks will be shallow and the risk/reward of delaying securing fixed rates may not be in your best interest.

Not every client’s risk tolerance and hedging strategy is the same, but we trust the above report will help you put into perspective the risk/reward opportunities at this time. We invite you to call one of our energy analysts to help you plan a hedging strategy appropriate for your situation.

Ray Franklin
Senior Energy Analyst