Will A Warm Winter Stoke Natural Gas?

While this winter’s El Nino could be a relief for the drought-stricken western US, it could also push natural gas prices down to their lowest levels in 20 years.

That’s not necessarily all bad – the Natural Gas Glut motif, a portfolio of stocks of companies that may benefit from high supplies of natural gas (and, as a general rule, low prices) has increased 12.9% in the past month, as natural gas prices have hit a three-year low.

During that same time, the S&P 500 has increased 7.8%.

Over the past 12 months, the motif has gained 5.2%; the S&P 500 is up 4.3%.

As Bloomberg recently reported, supplies on the Gulf Coast, the biggest onshore producing region, are already breaking records, and US inventories are poised to hit unprecedented levels before winter temperatures boost demand.1

The supply boom has been too much for some storage reservoirs to handle, according to Bloomberg. Gas stashed in salt caverns in the southern central US, which produces most of America’s output, has reached a record 357 billion cubic feet, just 13% below estimated capacity. Southern Star Central Corp., which operates a pipeline system in the Midwest, says storage on its system is almost full, Bloomberg reported.

Since the week ended May 29, US gas inventories have remained above their five-year average. Stockpiles totaled 3.814 trillion cubic feet as of Oct. 16, 4.5% more than the norm, and will probably reach an all-time high of 4 trillion before winter, John Kilduff, a partner at Again Capital LLC, a New York-based hedge fund that focuses on energy, told Bloomberg.

Normally, of course, winter weather demand will start diminishing those stockpiles in rapid fashion. However, this year the El Nino weather pattern – a warming of the Pacific Ocean that can result in a mild winter in the Northern Hemisphere – has a 95% chance of persisting through February.

About 49% of US households use gas for heating. “From a temperature standpoint, demand is just not there,” Jason Schenker, president of Prestige Economics, told Bloomberg.

An abundance of gas supply from the country’s shale reservoirs, which accounted for 47% of US production in 2013, is contributing to the glut. Output from the Marcellus formation, the nation’s largest by volume, is up 5.2% from a year ago and has surged 14-fold since the beginning of 2007, according to data cited by Bloomberg from the US Energy Information Administration.

Total US gas production will expand 5.6% this year to a record 79.06 billion cubic feet a day, while demand will rise by only 4.2 percent, according to the EIA.

Unsurprisingly, producers aren’t faring well. The Standard & Poor’s Oil & Gas Exploration and Production Select Industry Index is down 27% this year, and the number of rigs drilling for gas dropped to a record low of 189 in the week ended Oct. 9, according to data from Baker Hughes.

But fewer rigs haven’t been able to offset the one-two punch of productivity and efficiency. According to a recent Wall Street Journal article, many previously drilled wells are still being completed and areas with surplus gas such as the Marcellus are getting better connections to nationwide pipeline networks.2

That means further pressure on the national benchmark, the Journal explained, while the productivity of existing wells continues to be surprisingly good.

A colder-than-expected winter could give gas prices a boost over the next few months, but there may be a longer-term limit unless production begins to reverse course.