Economics 101 still applies to the natural gas market. It's just been difficult to see through the haze of a warm winter.
The three-year funk in natural gas prices got funkier than ever this week, as the benchmark gas futures contract on the New York Mercantile Exchange slid to its lowest level in a decade. Cheap prices should, in theory, encourage consumption – especially when the price of some of the fuel alternatives is so conspicuously rich. (I'm looking at you, oil.)
Yet gas storage inventories remain alarmingly bloated, keeping prices stubbornly depressed. When are we going to see the long-promised demand response?
The answer is, it's already happening. But up until now it has been obscured by the weather.
Cheap fuel for the grid
Peter Tertzakian, chief energy economist at Calgary's ARC Financial Corp., said in a report this week that the bargain-basement natural gas prices attracted more electricity-generating customers over the winter. And while power utilities' demand for gas usually eases when spring arrives, it hasn't this year: Their gas consumption is running about 35 to 40 per cent above historical seasonal norms.
"Over the past six weeks, power generators have been using an average 6.0 Bcf/d [billion cubic feet a day]more than normal. Going back to the beginning of the year, an average of 4.3 Bcf/d of incremental volume has been burned relative to 2011," he wrote.
"It does rationally coincide with the collapse of natural gas prices to giveaway levels," he said. "Instead of being a seasonal supplier of fuel to power generators, natural gas appears to be taking on more of a steady role as it becomes a cheap substitute for the likes of coal."
Winter of discontent
Because of this increase in power demand, Mr. Tertzakian said, " All else being equal, [U.S. gas]storage levels should have fallen this year by about 325 Bcf."
So why, then, are storage levels now 900 Bcf more than the five-year average for this time of year – roughly double the gap when the year began?
Because all else hasn't been equal.
Due to the mild winter, year-to-date heating consumption is 8 Bcf/d below 2011 levels. That has more than offset the increase in electrical consumption, pushing inventories higher – even as U.S. gas production has flattened and begun to decline slightly (another logical consequence of the weak prices).
With the weird winter behind us, and gas production unlikely to grow much this year, Mr. Tertzakian suggested that power generators' new taste for natural gas could make a rapid dent in the supply overhang.
"All else being equal, an extra 6.0 Bcf/d of power demand could (emphasis on "could"), if sustained, wipe out excess stores in just over four months."