NYMEX Henry Hub gas continued to unravel in June. The contract for August delivery closed lower in 13 out of 22 sessions. Of those 13 lower closes, the market finished with a lower high and lower low 7 times. That now brings the total to 47 since the start of the year. Conversely, spot gas on the NYMEX has closed higher with a higher high and higher low only 25 times. In other words, the market is still mired in a steep bearish channel.
That is not difficult to reconcile. For instance, per the EIA’s latest monthly production report (EIA-914), April gross natural gas production in the 48 conterminous states fell by 0.2%. Strong production in the Federal Offshore Gulf of Mexico and Louisiana, up 1.2% and 3% respectively, was offset by declines in Texas of 1.1% and Wyoming of 1.3%. April production still averaged 63.4 Bcf/d. That represents an increase of 2.8% from a year ago; despite the fact that the number of gas rigs (per Baker Hughes) had been slashed by nearly half since April 2008 (from ?1,463 to ?758). Furthermore, through the first four months of this year production was 3.4% or 2.1 Bcf/d higher than the corresponding timestep in 2008. Production in Wyoming (+7.7%) showed the largest gain through this timestep, while output in the offshore GoM (-13.6%) showed the largest decline.
On this note, production in the Gulf is still struggling to reach pre Gustav/Ike levels. On the other hand, the proliferation of non-conventional drilling (shale, coalbed methane and tight gas) has been more than enough to offset shut-in offshore output. As a result, gas is still getting into the ground.
The EIA now forecasts working natural gas stocks to reach 3.659 Tcf by the end of this refill season (late October/early November). That is 94 Bcf or 2.6% above the 2007 record, 3.565 Tcf. To get there from here, injections need only average 47 Bcf per week or 81% of the five-year average. Needless to say, odds are short we will get there.
After all, demand is virtually nonexistent. According to the EIA’s Natural Gas Monthly for April, residential natural gas demand through the first four months of this year was down 2.2% year-on-year. For commercial use demand was down by 1.7%. However, these declines pale in comparison to the 12½% plunge in consumption from the industrial sector.
To wit, capacity utilization at steel mills in April was a woeful 33.3% of capacity. As a result, iron and steel production declined 1.8% on the month and was 64.4% below its recent peak in December 2007! U.S. Steel’s 2008 consumption of natural gas amounted to around 1.3% of the average open interest in the NYMEX Henry Hub futures contract. Extrapolate that (U.S. Steel is probably the tenth largest steel company in the world) against the extant demand destruction for steel (and other prosaic commodities) and that is a lot of Btus that are not getting burned.
Production is beginning to tick higher. In May capacity increased to around 36% and in June U.S. Steel announced it was restarting some idled production in Ontario and the Midwest. Be that as it may, overall capacity from the manufacturing sector is still running about 13 points below normal.
Meanwhile, last month’s release of the biennial study from the Potential Gas Committee (a think tank of industry, government and academic institutions) showed U.S. supplies of natural gas surged 35%.
It was the largest increase in the 44-year history of the report. According to an article in the New York Times, estimated natural gas reserves rose to 2,074 Tcf in 2008, from 1,532 Tcf in 2006. “New and advanced exploration, well drilling and completion technologies are allowing us increasingly better access to domestic gas resource –especially ‘unconventional’ gas – which, not that long ago, were considered impractical or uneconomical to pursue,” said the report’s principal author, John B. Curtis, a geology professor at the Colorado School of Mines.
Indeed, vertical rigs have accounted for the bulk of the decline in the Baker Hughes count. Vertical rigs, which tend to be associated with conventional fields, have dropped by three fifths or 570 rigs. This drop accounts for 59% of the 1,155 rigs that have been pared since last summer’s peak. On the other hand, horizontal and directional rigs, which generally represent unconventional plays, have dropped by a combined 469 rigs or 41% of the total decline.
Stephen Schork is the Editor of, "The Schork Report" and has more than 17 years experience in physical commodity and derivatives trading, risk systems modeling and structured commodity finance.