Natural Gas Oversupply to Weigh on Oil Prices?

The divergence in natural-gas and crude-oil prices has gone to an extreme. Natural-gas prices have fallen below $4 (U.S.) per million British thermal units while crude oil prices have shot up and are hovering close to $70 (U.S.) a barrel, leaving the ratio of oil-to-gas prices nearly double the historic average.

Many investors are now buying gas stocks and exchange traded funds (ETF), thinking they are cheap. Of note, trading volumes are soaring for the United States Natural Gas (UNG) and the Claymore Natural Gas Commodity ETF (GAS), the ETF tracking Canadian gas prices.

But new sources of supply are emerging in areas such as shale gas and LNG due to technological advancements. In the U.S. alone, the Potential Gas Committee reports that there are now about 2,000-trillion cubic feet of recoverable natural gas still in the ground, a nearly 60% increase from estimates four years ago.

Given this upward structural shift in gas supply, wouldn’t it be possible that a great deal of the narrowing in the spread between gas and oil prices will come about from lower oil prices instead? The oversupply situation in gas could be like an anchor that weighs down oil prices, as energy users increasingly switch from oil to much cheaper gas (and speculators catch on to the dynamics). The substitution effect may also get a boost from governments favoring natural gas as a cleaner-burning fuel with less dependence on foreign suppliers.

Who knows, maybe we are entering a period of inexpensive energy prices again? The Peak Oil thesis had us going for awhile. However, other fuels such as natural gas could perhaps step up to the plate and keep prices reasonably sane.

Comments

[Mad Hedge F...:]

I'm worried that there are too many lemmings out there who think this is a one way bet. The Potential Gas Committee of the American Gas Association published a report that US reserves have jumped by 35% to 1,836 trillion cubic feet, thanks to the huge discoveries of new shale fields since 2006. Also contributing are the new fracturing technologies, which I had a hand in pioneering myself ten years ago. That means our natural gas reserves can now meet 100 years of current consumption, and are roughly equivalent to Saudi Arabia’s crude reserves on a BTU basis. Natural gas futures dove 26 cents to $4.23, and the ETF (UNG) gave back 4%. A buddy of mine close to the committee warned me that something like this was headed down the pike, which is why I sent readers a warning two weeks ago to cash out at $4.30 (see www.madhedgefundtrader...). When you only see chart driven traders buying a commodity and the industry insiders selling the Hell out of it, you want to stay away. Bewildered technicians were last seen feverishly searching for Hainesville on Google. It was their models that sucked $3 billion into UNG over the last three months. This is great news for the big consumers of NG, like the utility industry and the petrochemical industry. It will also give a shot in the arm to Boone Pickens’ plan to shift our transportation system to NG (see www.madhedgefundtrader...). Even the ratio, pairs, and mean reversion traders have been burned by NG this year. As cheap as NG is, a Saudi Arabia’s worth of supply hitting the market could easily knock the price down by half from here. As extreme as the move in the oil/gas ratio is at 18:1, we could be breaking new ground.

Jun 21 07:56 PM

[untrusting ...:]

Well summarized. Thanks for the information. Sold all my NG stocks last week with reasonable profits and probably will not re-enter them unless they have some pretty severe price delines which could well happen in the coming months. Was aware of some of the NG information, but not all of it, so thanks.


On Jun 21 07:56 PM Mad Hedge Fund Trader wrote:

> I'm worried that there are too many lemmings out there who think
> this is a one way bet. The Potential Gas Committee of the American
> Gas Association published a report that US reserves have jumped by
> 35% to 1,836 trillion cubic feet, thanks to the huge discoveries
> of new shale fields since 2006. Also contributing are the new fracturing
> technologies, which I had a hand in pioneering myself ten years ago.
> That means our natural gas reserves can now meet 100 years of current
> consumption, and are roughly equivalent to Saudi Arabia’s crude reserves
> on a BTU basis. Natural gas futures dove 26 cents to $4.23, and the
> ETF (seekingalpha.com/symbo...) gave back 4%. A buddy of
> mine close to the committee warned me that something like this was
> headed down the pike, which is why I sent readers a warning two weeks
> ago to cash out at $4.30 (see www.madhedgefundtrader...).
> When you only see chart driven traders buying a commodity and the
> industry insiders selling the Hell out of it, you want to stay away.
> Bewildered technicians were last seen feverishly searching for Hainesville
> on Google. It was their models that sucked $3 billion into UNG over
> the last three months. This is great news for the big consumers of
> NG, like the utility industry and the petrochemical industry. It
> will also give a shot in the arm to Boone Pickens’ plan to shift
> our transportation system to NG (see www.madhedgefundtrader...).
> Even the ratio, pairs, and mean reversion traders have been burned
> by NG this year. As cheap as NG is, a Saudi Arabia’s worth of supply
> hitting the market could easily knock the price down by half from
> here. As extreme as the move in the oil/gas ratio is at 18:1, we
> could be breaking new ground.

Jun 21 09:34 PM

[one eye:]

Took a look at the Link provided, saw what I needed.

Canada continues to Supply 15% of total US annual needs.

Jun 21 11:30 PM

[A Barrel Full:]

I have been watching in bewilderment as comments have talked about the widening gap between natural gas and oil, and how this is a reason why gas prices will go up, or oil prices will go down.

Where are these two products interchangable, in the short term?

I have no doubt that the prices have a connection in the long term, T Boone Pickens might see to that, but it needs investment to switch. In the short term, very little electricity is generated by oil. Heating oil may be replaced by natural gas, but that needs a pipeline.

Don't bet on historic trends being repeated.

Jun 22 07:33 AM

[felixd:]

autor confuses apples and oranges. Yes it is true that there are new and potentially huge new supplies of NG in North AMerica. But at what cost of production? He does not note that the recovery cost for these new sources is much higher than $4 , so unitl prices rise, these new sources will remain undeveloped. He also does not note the political costs of development. Lets face it, US does not like energy production (thats why so much of the oil and gas reserves in and around the country go undeveloped). Bottom line to all this is that there is a huge historical divergence between costs of oil and NG..that should give investors a chance to profit from Mr Market as he corrects. Question is, will gas go up or oil go down? My guess is gas goes up. THe reason is that most of all the oil in the world is governmet controlled or owned. Governments (not just ours) are broke and they need the cash. Hence the unwilliingness to adjust price down. SO...the wiser bet is to go long NG and wait for the correction. Industry is soon or already going to switch to NG if they can which should start reducing the huge supplies of NG. Watch the storage numbers...when they start to fall, Natgas will move sharply higher.

Jun 22 09:36 AM

[john s. gordon:]

no there is no connection between the two given current economic stagnation, the oil is boosted by speculation (goldman sachs); this factor is absent in the world of gas.
> jack

Jun 22 09:42 AM

[LOLcapitali...:]

I don't understand why we keep discussing the WTI/NG relationship as if it has meaning. I've posted on this subject. For a statistical and fundamental analysis, see my instablog. There's no reason to post it here.

Felixd: you're assertion about F&D costs for marginal production in North America is incorrect. Some of the shales have F&D costs below $2.00.

Jun 22 11:09 AM