Natural Gas: Will New Bans Affect Prices?

| About: iPath DJ-UBS (GAZ)

By Lara Crigger

As Brad discussed yesterday his Weekly Oil Roundup, we saw a bit of a surprise in this week's Energy Department inventory report. But the drama wasn't contained to just crude oil: Natural gas inventories also caught analysts off guard.

Stockpiles still dropped—as they should, as the U.S. hunkers down for the cold winter ahead—but natural gas inventories didn't drop nearly as much as expected. According to the report, stockpiles decreased by just 23 billion cubic feet; analysts had predicted closer to a 29 billion cubic feet drop.

"I don't think the weather patterns have changed to make it cold enough to move the needle on storage levels," William Costello, an analyst with Westwood Holdings Group in Dallas, told Bloomberg.

But who cares, right? What's 6 billion cubic feet among friends?

It matters because natural gas reserves still hover near 40-year highs, our stockpiles swollen with new shale gas field production. Hydrofracking, a controversial new drilling technique that involves shooting a cocktail of water and chemicals into rock to release the gases trapped within, has revolutionized the way we produce natural gas in this country—and our stratospheric reserves reflect it.

That means, no matter how cold it gets this winter, those high inventories could keep natural gas prices holding in the $4-per-million-BTU range for the foreseeable future. Unless, of course, something changes.

Cue: Something changing.

Feds, States Change Mind on Drilling

Two big natural gas news stories came down the wires yesterday.

First, the Obama administration reversed its earlier decision to allow expansion of oil and natural gas drilling offshore along the eastern Gulf of Mexico and the Southeastern U.S. That's not to say Feds will ban any activity in those regions; U.S. Interior Secretary Ken Salazar said that instead, "the most appropriate course of action is to focus on areas with existing leases." The decision stands for seven years.

That's bad news for producers already wrestling with a de facto freeze on new well permits for existing leases while U.S. regulators debate stricter environmental and safety standards for drilling.

About 30 percent of our current domestic production of oil and gas comes from offshore rigs. Without the ability to lease new sites—or even build new wells on current sites—we could see that 30 percent production drop off considerably.

But offshore drilling isn't the only energy practice attracting lawmakers' eyes.

Earlier this week, New York state lawmakers enacted a temporary ban on hydrofracking until May 15, 2011. The ban, as the Wall Street Journal points out, is mostly symbolic, since the U.S. Department of Environmental Conservation has already effectively put a stop to it anyway, as they try to establish new rules for permits and drilling.

Plus, the ban only affects new permits (which are usually sought out in the spring, not the winter). New York's 13,000 current active wells would not be affected.

However, the ban is important for another reason: It signals lawmakers' rising consciousness about hydrofracking—and their desire to placate those against it.

Over the past several months, a vocal minority has raised environmental concerns about hydrofracking, concerns we've covered on this site before. Frankly, as a former scientist, I think these conversations are good. Everyone from environmentalists to energy investors should be asking hard questions of any new technology.

But the reality remains that groundwater contamination and well explosions have only occurred in a handful of isolated cases, even though the practice of hydrofracking has quickly spread across the U.S.' production industry. Shale gas now accounts for 20 percent of our domestic natural gas supply.

What's more, when catastrophe does occur at these sites, it's not because of the actual science and practice of fracking. It's because someone, somewhere failed to do their jobs properly. Human error, not hydrofracking, is to blame, and as far as I can tell, we haven't yet figured out how to legislate away incompetence. In that regard, the debate over hydrofracking sounds an awful lot like the debate over offshore drilling.

Will Winter Mend Prices?

But let me hop back off my soapbox. Will these bans be enough to boost natural gas prices, at least in the short term?

Probably not. But weather could. Demand for natural gas tends to peak in December and January, the year's most bitterly cold months, and so if nothing else, we should see natural gas get a temporary bump then.

Of course, as natural gas expert Chris Jylkka pointed out back in September, climatologists are predicting a La Nina pattern for this winter, meaning warmer-than-normal temperatures across the Eastern and Southern U.S. The East, of course, is a major demand center for natural gas.

Therefore, natural gas investors should probably keep a closer watch on their thermometers than on C-SPAN.

Disclosure: No position

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