Gas prices are set to fall from the current $4 back to low $3’s. Recent gas rally was caused by a deliverability crisis, and gas should fade back to the coal displacement orbit when withdrawal season ends. In addition, “cap” of coal orbit may have fallen to $3.30 from $4+ as lower-cost Illinois Basin coal displaces Appalachian coal.
$4 Gas Sparked By Short-Term “Deliverability Crisis”. Late winters could have great influence on prices. Main reason is that the ability to withdraw gas from storage declines as storage levels deplete. By March, only 1.5% of gas in storage is accessible on a given day, or 200 bcf per week, by our estimate. Temps this March were this winter’s highlight – 8% colder-than-norm, coldest March since 1996 – in an otherwise mild winter.
This led to a peak weekly withdrawal of 145 bcf, fairly close to the deliverability limit of 200. March withdrawals rarely total 145 bcf, much less 145 in a single week. The late winter surprise is unlikely to dislodge the coal/gas competition that limits natural gas prices, although gas should now average near the upper end of the band. (As a side note, spot gas prices this quarter are well below our $3.60 forecast, despite the late rally. Spot gas averaged $3.46 y-t-d.)
Key Takeaway
Gas prices are set to fall from the current $4 back to low $3’s, in our view. Recent gas rally was caused by a deliverability crisis, and gas should fade back to the coal displacement orbit when withdrawal season ends. In addition, “cap” of coal orbit may have fallen to $3.30 from $4+ as lower-cost Illinois Basin coal displaces Appalachian coal. We would continue to avoid gas-levered names.
Gas Prices Set To Fall.
Recent rally was driven by tightness in storage deliverability. This effect should wear off when withdrawal season ends. Gas should fade back towards the coal displacement orbit.
Top End Of Coal Orbit May Have Fallen to $3.30 from $4.00. We think lower-cost Illinois Basin (ILB) coal has displaced Appalachian coal at the margin based on anecdotal evidence as well as our analysis of power generation data. This lowers the “cap” of coal orbit to $3.30 from $4.00.
Still Too Much Coal
We expect summer electric power coal stocks to be above average and roughly flat with year-ago levels. Ample stocks means utilities will not hesitate to switch back to coal as gas price rises, in our view.
Though A Hot Summer Could Mitigate Coal Overhang. NOAA has published a bullish summer temperature forecast. We will continue to monitor weather data closely.
Still Too Much Gas
We expect winter exit inventory to be 1.8 tcf, lower than year-ago but still above the 5-year average and the second highest on record.
A Minor Coal Recovery Can Sap Gas Rallies
We expect gas inventory to peak at 3.7 tcf this year, assuming a 2% increase in coal market share. An incremental 1% of coal market share gain can boost peak inventory by 200 bcf.
Plenty Of Baseload Available This Summer
Nuclear, hydro, and wind power should be ample compared to last summer.
Gas Supply Not Falling Fast Enough. We expect 2013 US gas production to be roughly flat y-o-y based on forecasts for our covered companies.
Avoid Gas-Levered Names
The recent gas rally is not the prelude to a sustained gas recovery. We reiterate our cautious stance on gas-levered names with the exception of COG, given that they have a dominant position in the core of the lowest cost gas basin.
January Power Data Suggests ILB Is Indeed Taking Market Share At $3 Gas
EIA power data for January 2013 shows gas losing market share as gas reached low $3’s. Gas lost 2% market share to coal compared to January 2012 as gas prices rose to $3.34 from $2.68.
Gas generation was down 4% even though overall power demand was
up 2%. The switch back to coal occurred mainly in East North Central states (IL, IN,
MI, OH, WI), where coal took 3% market share, and East South Central states (AL,
KY, MS, TN), where coal took 2%. As could be expected, reversion occurred in lowcost
PRB states such as Michigan. But reversion also occurred in states burning
higher-cost bituminous coal, such as Ohio, Indiana, and Alabama. We think this
could be an indication that gas is being displaced by the cheaper types of
bituminous coal, namely Illinois Basin coal.
(Separately, January power data also shows a sizeable 7% decline in gas market share in New England, but this was driven by a different phenomenon. Pipeline constraints in the region caused gas prices to spike to an average of $11.10 and a peak of $34.65 in January. At these prices, gas lost market share to higher priced coals as well as petroleum liquids.)