Natural Gas: Where Bullish Dreams Go to Die?

by: Five Thousand Over Libor

Let's look at this thing from a... um, from a standpoint of status.

-Ed Harris as Gene Kranz in Apollo 13

Status: December, the month that was (mostly in-jest) discussed during the fall to risk coming in as a net build, is in some calculations (owing to very cold weather) now competing with December 2002's record storage draw of -723 Bcf (record back to 1975).

And yet we can’t hold $4.25 in the January contract. Some context on that number: The lowest January expiry in the past 9 years was the January 2003 expiry…at $4.988.

Over the past two years, more bullish dreams have died along the NYMEX NG curve, and the myriad of investment proxies surrounding it, than almost anywhere else in the global financial big-top. This, despite symphonies of research reports, expert analyses, and “market sage” announcements that 2009, 2010, and now 2011, will be the year for the gas turnaround (although admittedly, and rather interestingly, the calls for 2011 are nowhere nearly as numerous as the two previous years. Bullish sign? Not likely quite yet.)

And what’s truly fascinating is, mother nature has rarely provided a more consistently-bullish meteorological backdrop than the nearly 2 ½ years since Hurricanes Gustav and Ike raked the central-Gulf of Mexico, both landing along the west-central gulf coast as Category 2 storms (Gustav was a major in the central gulf).

In reaction, natural-gas prices began their (now characteristic) dance of indifference; the November 2008 contract spent one day in mid-September posting an impressive rally, to a high of $8.60/MMBtu, only to expire 5 weeks later at $6.47, 25% lower. Other than a relatively normal Winter 2008-2009, the seasons of Summer 2009, Winter 2009-2010, and Summer 2010 have proven to be quite aberrant, the last two extremely so. And price has done nothing.

Summer 2009 (Click to enlarge)

There was a 96-percentile summer in Florida (4th most populous state and 2nd largest collection of NG-installed power generation), an 88-percentile summer in Texas (2nd most populous state and the largest collection of NG-installed power generation – literally double that of FL), and a 72-percentile summer in California (most populous state and 3rd largest in NG generation). Despite this, prices peaked in mid May 2009.

Winter 2009-2010 (Click to enlarge)

The vast majority of the country was well below normal in temperatures December-February 2010, with the critical Southern plains and Southeastern U.S. seeing essentially their eighth coldest December-February period in 115 years, or a 93-percentile winter. We saw a record draw from storage December 1 2009 – February 28 2010, a total of 2,131 Bcf, as a result. And prices for all five winter contracts, November 09 – March 10, never beat their contract highs, all made on October 21, 2009. All expiring, on average, 17% below those highs.

Summer 2010 (Click to enlarge)

And then, the 6-month period of April-September this year. Record-warmest stretch for 19 states in the east, and the second warmest for six more, encapsulating over half the population of the country. Prices never bested their squeeze-induced highs of June 15, 2010, with the July-October contracts expiring, on average, 28% below those highs.

And here we are, again, facing a potential record December storage draw, and January 2011 can’t stick to within 75 cents of the existing 9-year low in January contracts.

Since January 1, 2009, there have been 496 NG trading days on the NYMEX. Of those 496 days, the number of days that saw a prompt-contract settlement above $6.000: Two days. And of the 496 trading days prior to January 1, 2009? 461 days.

Think something has changed?

Clearly, at this point, save the perennial and abject chorus warbling “manipulation”, the belief in supply is now widely adopted. This in and of itself suggests a shift afoot; and that this supremely bearish episode of natural-gas history is at least past the intermission mark.

But looking for distinct improvement in the supply/demand balance of the U.S. gas economy over the next several months, into the spring and early summer of 2011, may prove yet again to be nothing but a fatefully non-profitable enterprise.

Still extremely elevated year-over-year gas rig counts (most especially the near-record levels of horizontal rigs out), new large to-market pipelines, hundreds of wells waiting tie-ins in southern shale plays, and the continued brisk pace of efficiency gains at the well head (pad drilling, choking techniques, multi-frac stages)-- all these do not point to production declines in the foreseeable future.

Some worry about Canadian imports, but given the fact that the last three gas weeks, weeks 48, 49, and 50 of the year (21 days ending Dec 16, 2010) have been the coldest for the U.S. since gas-weighted heating degree days were provided by NOAA in 2002, Canadian imports have averaged, per Bentek, 1.1 Bcf/day ahead of last December, through Tuesday, December 22. This proves that Canadian supplies continue to be there in periods of heightened demand.

Should the weather in January and February moderate back towards normal (and given the string of aberrant seasons, perhaps it’s not ridiculous to at least hope for a seasonal Q1 2011), prices will have to establish and maintain below $4.00/MMBtu. It will become incumbent upon price to discover sensitivities among suppliers, and capture as much incremental coal demand as is feasible. Should weather moderate from here, we will need substantial reactions to falling price (predominately from supply) in order to avoid deep concerns for breaching storage capacities next fall.

It appears that the sustained-bullish NG view is not yet finished being a bullish-dream killer.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.