On February 18th we hosted a guest speaker call with Keith Barnett of Asset Risk Management (ARM) on natural gas prices and basis differentials. It was an excellent call, and we recommend you check out the replay and Keith’s slides, linked below:
Link to Audio Replay
Link to Slide Deck
Key Takeaways from the Call
1. Near-term Henry Hub expectations……Not expecting a spring price crash similar to March / April 2012. Expects prompt prices to be range-bound below $3.00 in 2015, with the market tightening in 2H16. “We will trade lower in the prompt. We are … prepared to see $2.25 in the prompt month with a lot of trading between $2.40 and $2.60, but ultimately … we think the range for settlement of prompt month contracts this summer will average closer to $2.40 / $2.50 with range between $2.30 and $2.75 on the settle, and $2.25 to $2.90 on the actual day-to-day activity. We do not have to crash the market to solve for a reasonable ending inventory this year … [Supply] mitigation due to price and rig activity actually begins to tighten the market in ‘16. The damage carries over into the first part of ’16, but we’re quite bullish the second half of ’16, ’17, and beyond.”
2. Natural gas basis expectations……Marcellus/Utica pipelines going to the Gulf Coast and Midwest will pressure basis soonest; projects to move gas to the Northeast and Southeast are more prospective, and will pressure basis later… General expectation: “The west will be relatively stable and uninteresting, and all the action will be at Dom South, up in New England and New York, and then back down into the Gulf Coast as gas comes down … through all the reversal projects.”
- Marcellus/Utica (Dom South) current weakness driven by local “gas on gas competition” for processing and pipeline capacity. First LNG export could positively impact Dom South basis. “Dom South is not the most mispriced, but over term, it will move the most for rational, foreseeable reasons.” Assume tighter Dom South basis longer-term.
- Houston Ship Channel (HSC) will most likely have a positive basis, especially in the summer due to high TX power burn. HSC a very important market, it’s the largest concentrated gas market in the US, maybe in the world. Exports to Mexico and new Texas industrial projects will be very important to the HSC basis.
- Chicago will be well-supplied and should trade negative, particularly if there is a mild winter in the Midwest.
- Mid-Con will be stable for the next 18 – 24 month; “slight” negative pressure later as Marcellus/Utica gas“boomergangs” to the west and south; will be counteracted by Gulf Coast demand pull. “We see [Mid-Con basis] being more stable than most places.”
- Texas “won’t be a premium market, but it will be more insulated than Louisiana.”
- California is likely to sustain positive basis because it is the most-isolated, furthest trade point from the Marcellus/Utica.
- Opal (Wyoming) should be slightly negative and stable. The Rockies are well-balanced. Opal may come under pressure as Rex volumes get backed up … at which case the supply will rotate west. Will compete with AECO gas for market share in the west.
- AECO basis to be cyclical, mainly depending on short-term contracting on TransCanada’s mainline. “Expect more of the same rhythmic, cyclical price action.” Outlook for Canadian heavy NGLs is worse than it is for methane and ethane. AECO basis is a difficult one to call due to TransCanada contracting and Loonie weakness.
3. US LNG outlook and price impact……6.7 Bcf/d of LNG export capacity is currently under construction. “If the current pricing environment holds, only one of the Canadian projects will get done… I don’t think that the Cheniere greenfield project gets done at these oil prices…” At current oil prices an additional 3.5 Bcf/d gets built because the inertia behind some projects is so high. At $75 oil, an additional 5.5 Bcf/d gets built; at $90-100, an additional 8 – 9 Bcf/d. However, we won’t see that much gas actually getting exported, as some of the projects just provide optionality / trading vehicles. Sabine Pass Train 1 is likely to come online early; some “test gas” may come in May or June 2015. “This will affect the market psychologically … Once we see that first cargo being made, being loaded, being shipped, I expect to see the back end of the market respond. It’s not going to go up a dollar, but it’s going to respond.”
4. Impact of oil price crash on US natural gas demand growth……Less exports to Mexico (weaker economic growth, less incentive to switch away from oil for some of their power plants). “Exports to Mexico will continue to grow, but maybe not as fast.” Less industrial demand (low oil prices and strong USD = lower margins and returns for US petchem plants). Less LNG exports (LNG prices sensitive to oil prices, particularly in north Asia). Before the recent oil crash ARM thought that “demand would definitively, on an annual basis, outrun production growth by 2017, and on a cumulative basis out run it for sure, by 2018. [Now] that is still true … where 2018 cumulative demand growth does exceed cumulative production growth, suggesting that we will be tighter again by 2017 or 2018. However, 3 of the 4 “Pillars of Demand” are threatened by lower prices…”
5. Marcellus/Utica takeaway overbuild?......”There is as close to 100% probability of overbuilding as you can get and actually still call it ‘probability’ … This is America and that’s what we do, we overbuild … We have such deep, liquid capital markets … We arbitrage the heck out of things physically, particularly in the energy business. It’s going to get overbuilt, we’re confident of that, and that does tighten in the Dom South basis. It doesn’t tighten it as much as you might initially think, but eventually it does … I don’t think you go premium to Henry Hub because gas is still going to be coming from Pennsylvania to northern Louisiana to satisfy the LNG and industrial projects, and there has to be a negative Dom basis to pay for that pipe … The floor typically is fuel and variable cost on these new flow patterns … at $3.50 Henry Hub … we saw the [Dom South] floor at $0.29 back of Henry, which is the fuel and variable cost on one of the legs that we’re confident that’s going to get done and going to be busy.”
Ben Ryan
Analyst
