The bounty of natural gas is leading to a structural shift in the U.S. energy demand landscape, including an escalated push to switch to natural gas-powered utilities from coal-powered generators and expanding the use of natural gas in vehicles.
Natural gas prices are in a four-year-plus bear market and in April spot values sunk to their lowest level in 10 years, falling under $2 per million British Thermal Units (BTU) under the weight of record inventories. Higher output because of hydraulic fracturing, known as “fracking,” plus low U.S. heating-demand after the mild winter led to so much supply that producers are wondering where to store it all.
Several industry analysts said the upside for natural gas is likely capped at $5 for the next several years. Until new demand infrastructure is in place, the market must work through the supply imbalance.
Gas storage levels for the United States in mid-June were at 3,008 billion cubic feet (Bcf), 29 percent above last year, according to the Energy Information Administration, an arm of the U.S. Department of Energy. “In the last 20 years, end-of-March inventories have not risen over 1,700 billion cubic feet (Bcf), and prior to that, rose above 2,100 Bcf just once, in 1983,” the EIA says.
Given that “injection season” — when natural gas is normally put into storage for use the following winter — began back in April, there is widespread concern that storage space may run out by the early fall.
David Bouckhout, senior commodity strategist at TD Securities, says if weekly storage injections match the five-year average, gas-in-storage could reach 3.45 trillion cubic feet (Tcf) this month , which would be a record, four months before the injection season ends. Until 2006, season-end levels had never even surpassed 3.4 Tcf.
“Storage capacity is higher now than ever before, but it still paints a very bearish storage situation that should weigh on the ability for natgas to rally, especially without an increase in demand,” says Bouckout. “Even an active hurricane season won’t likely save the market from its current doldrums, not to mention an exceedingly warm summer.”
Shutting Some Rigs
Low prices have forced producers to cut output, such as moves taken by industry-leader Chesapeake to cut a net 0.5 Bcf. New drilling plans are being shelved and according to Baker Hughes, the natural gas rig count in North America was 581 as of June 22, down from a 2011 high of 936 in mid-October. Despite the moves, the EIA and market watchers still expect higher output versus 2011.
Part of the issue comes from the natural gas that is sometimes produced when energy companies drill for crude oil, called associated production. As long as crude oil prices stay strong, there’s little incentive to stop this type of production, even as it adds to the natural gas supply glut, analysts say.
Speeding up the coal-to-gas switching by power generators may prevent hitting storage capacity, say Goldman Sachs analysts. To do so, Goldman says on average an “unprecedented” 4.9 Bcf/day of coal-to-gas substitution must occur, above their previous estimate of 3.4 Bcf/day. If the accelerated switching happens, it could lead to a more balanced market which may allow a slight price recovery in 2013.
Meanwhile, Goldman lowered their NYMEX 2012 natural gas average price forecast to $2.40, and their 2013 forecast to $4.
Longer-term there are hopes to use natural gas as a vehicle fuel. Kimberly DuBord, director of research, and Ryan McShane, CFA, research analyst at Briefing Research, say using natural gas in the domestic transportation sector makes more sense for commercial vehicles like trucks and buses than for passenger cars.
She says already there is a shift toward alternative-fuel fleets by businesses like AT&T, UPS and FedEx because of the difference between diesel and natural gas prices, and because of companies’ economy of scale.
Before the United States can consider more widespread use of natural gas-powered vehicles, infrastructure is needed, as there are only 1,000 fueling stations nationwide, so even for commercial fleets it’s a problem, DuBord says.
McShane says in terms of energy efficiency for consumer use, it makes more environmental sense for a natural gas power utility to supply electricity to a home or fueling station and then a consumer plug in their electric car, rather than to burn natural gas directly in a natural gas-powered car.
“The converter kits – to convert a gasoline car to natural gas – are expensive. The Honda Civic natural gas-powered car is $10,000 more (than a gasoline-powered Civic),” McShane says. “Plus it has lower horse power and is less fuel efficient. It doesn’t make economic sense at current prices.”