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Natural Gas Prices Continue to Sink

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The U.S. Energy Department's weekly inventory release showed an in-line increase in natural gas supplies, as maintenance on two nuclear units in Southern California led to increased natural gas demand in the region.

However, this is largely seen as a one-off shot, with mild April temperatures across the country restricting the commodity’s requirement for power burn. The injection – the fifth in 2012 – has added to already bloated inventories, thereby pressuring spot prices that slipped to a new 31-month low.

Gas stocks – currently some 60% above the benchmark five-year average levels – are at their highest point for this time of the year, reflecting low demand amid robust onshore output.

The Weekly Natural Gas Storage Report – brought out by the Energy Information Administration (EIA) every Thursday since 2002 – includes updates on natural gas market prices, the latest storage level estimates, recent weather data and other market activities or events.

The report provides an overview of the level of reserves and their movements, thereby helping investors understand the demand/supply dynamics of natural gas.

It is an indicator of current gas prices and volatility that affect businesses of natural gas-weighted companies and related support plays like Anadarko Petroleum Corporation (APC - Free Report) , Chesapeake Energy (CHK - Free Report) , Encana Corporation (ECA - Free Report) , Devon Energy Corporation (DVN - Free Report) , Nabors Industries (NBR), Patterson-UTI Energy (PTEN - Free Report) , Helmerich & Payne (HP - Free Report) and Halliburton Company (HAL - Free Report) .

Stockpiles held in underground storage in the lower 48 states rose by 25 billion cubic feet (Bcf) for the week ended April 13, 2012, within the guidance range (of 24–28 Bcf gain) as per the analysts surveyed by Platts, the energy information arm of McGraw-Hill Companies Inc .

The increase – the fifth injection of 2012 – is lower than both last year’s build of 42 Bcf and the 5-year (2007–2011) average addition of 26 Bcf for the reported week.

However, notwithstanding the relatively soft build during the past week,, the current storage level – at 2.512 trillion cubic feet (Tcf) – is now up 871 Bcf (53.1%) from last year and 919 Bcf (57.7%) over the five-year average.

Due to this huge natural gas surplus, inventories in underground storage started to climb since March - weeks earlier than the usual summer stock-building season of April through October. They have persistently exceeded the five-year average since late September last year and are likely to test the nation’s underground storage facilities by fall. In fact, the EIA foresees natural gas storage at record highs of 4.04 Tcf by October.

A supply glut has pressured natural gas prices during the past year or so, as production from dense rock formations (shale) – through novel techniques of horizontal drilling and hydraulic fracturing – remain robust, thereby overwhelming demand.

As a matter of fact, natural gas prices have dropped over 60% from 2011 peak of $4.92 per million Btu (MMBtu) in June to the current level of around $1.90 (referring to spot prices at the Henry Hub, the benchmark supply point in Louisiana). Incidentally, prices hit a 31-month low of $1.85 earlier this week.

To make matters worse, a near-record mild weather across most of the country curbed natural gas demand for heating all winter, leading to an early beginning for the stock-building season. The grossly oversupplied market continues to pressure commodity prices in the backdrop of sustained strong production.

This has forced several natural gas players to announce drilling/volume curtailments. Exploration and production outfits like Ultra Petroleum Corp. (UPL - Free Report) , Talisman Energy Inc. and Encana have all reduced their 2012 capital budget to minimize investments in development drilling.

On the other hand, Oklahoma-based Chesapeake – the second-largest U.S. producer of natural gas behind Exxon Mobil Corp. (XOM - Free Report) – and rival explorer ConocoPhillips (COP - Free Report) have opted for production shut-ins to cope with the weak environment for natural gas that is likely to prevail during the year.

However, we feel these planned reductions will not be enough to balance out the massive natural gas supply/demand disparity, and therefore we do not expect much upside in gas prices in the near term. In other words, there appears no reason to believe that the supply overhang will subside and natural gas will be out of the dumpster in 2012.

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