The Effect Of Global Warming On Natural Gas and Oil Stocks

Colin McCabe Global warming advocates rejoice: 2006 was officially the warmest year on record in the United States.

That's according to the National Oceanic & Atmospheric Association [NOAA] who made the historic announcement earlier today. Based on early estimates of their data (which is collected from more than 1,200 different U.S. Historical Climatology Network stations across the country) the average nationwide temperature in 2006 was a 'scorching' 55.01 degrees Fahrenheit. This surpasses the previous high of 54.94 degrees recorded in 1998 and exceeds the 20th century mean by a full 2.2 degrees. It also marks the first time in the 112-year history of the NOAA that average temperatures breeched 55 degrees.

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Personally, I find it hard to deny the world is undergoing some form of climate change (an upward trend in temperatures since the 1970's is very apparent). But a climatologist I am not, so I am really in no position to speculate on the cause (nor do I care to). What I can do however, is analyze what it means for our investments.

The price of commodities like oil and natural gas is incredibly sensitive to temperature variations. A large part of this is due to their inherently cyclical consumption patterns. Historically, winter is the season when consumption of heating oil and natural gas skyrockets, eating away inventories and driving up prices. But in an increasing temperature environment, there are years when this doesn't happen.

Use our current situation as an example. Can you remember a winter as mild as this one? I sure can't. And it's not just me, most states across the U.S. reported December temperatures as above normal or much above normal - some even recorded the warmest temperatures ever.

This is having a dramatic effect on the demand for natural gas. Inventory levels came into December well above their 5-year average and as a result, an extended cold spell was needed to alleviate the swelling. But that hasn't happened. In fact, it's been quite the opposite. Warm December temperatures decreased the need for households to fire up the furnace and with natural gas heating over 62 million homes in the U.S., the demand for gas has fallen substantially. The latest numbers show inventories for the lower 48 states still lie 15.3% above the 5-year average and that's having a carryover effect on prices as well. The Henry Hub spot price for gas closed at $6.15 today, off more than 27% from the beginning of December. Without cold weather sometime soon, gas prices could wane further but it is highly unlikely they will fall as low as in October.

I hope this simple real-market example shows how easily temperature sensitive commodities like natural gas can be impacted by climatic events.

And you thought the weather forecast only affected what you were going to wear today...