U.S. Gas Volatility Diminishes on Higher Output and Exports

By John Kemp

LONDON (Reuters) - Not even a relatively cold start to the winter heating season and a record volume of gas-fired power generation has been enough to prevent U.S. natural gas prices getting hammered since the start of November.

Traditionally severe seasonal swings in inventories and prices are being softened by surging domestic production and the increasing international integration of the U.S. gas market through LNG exports.

That means traders have no reason to expect gas stocks to remain anything but plentiful through the winter heating season, so there is little need to price-ration them in the meantime.

Futures prices for gas delivered to the Henry Hub in March 2020 have slumped to just above $2.20 per million British thermal units, down from $2.70 early last month and $2.90 a year ago.

Working stocks in underground storage amounted 3,411 billion cubic feet (bcf) on Dec. 6, up by 618 bcf (22%) compared with the same period last year (“Weekly natural gas storage report”, EIA, Dec 19).

That is a more than adequate supply despite colder-than-average temperatures across many of the major population centres in the United States during the first half of November.

The subsequent spell of warmer-than-normal temperatures kicked away the last support for prices and sent the March 2020 contract plunging to its lowest level since it began trading in 2008.

 

INVENTORY SWING

There have been bigger builds or smaller draws of stocks for any given level of heating demand this year and last than in any of the previous three winters (https://tmsnrt.rs/2Z92akZ).

Stocks, and therefore prices, are becoming progressively less sensitive to cold weather, continuing a trend evident since at least the winter of 2015/16 as the U.S. gas market gradually moves from a closed to a semi-open system.

In a closed system production and consumption are balanced through extreme swings in domestic inventories and prices, whereas in a semi-open one balance is achieved through smaller swings in inventories and prices spread across both domestic and international markets.

The volume of U.S. gas exported in September was equivalent to 14% of all domestic production, up from less than 12% in the same month last year, 10% in September 2016, and 6% in September 2014.

As a result, U.S. futures prices are trading in a lower range and becoming less volatile as domestic production ensures the market remains well supplied and international integration provides more flexibility for balancing.

However, the prolonged period of low prices, and now even lower ones, has already led to a one-third reduction in the number of rigs drilling for gas since the start of the year.

Production growth is starting to decelerate, with output rising 10% in the July to September period compared with a year earlier, down from a peak of 13% year-on-year growth in August-October 2018.

If prices remain low, the production surplus will be absorbed and the market should tighten towards the end of 2020 and into 2021.

Prices could then move higher with a somewhat greater volatility. However, both the trading range and the degree of volatility are likely to remain relatively low compared with 5-10 years ago.

Editor's Note: John Kemp is a Reuters market analyst. The views expressed are his own

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