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EIA Natural Gas Monthly: July 2016 Fifth Month In A Row Of Month To Month Nat. Gas Production Declines!

|Includes: CHK, ECR-OLD, EQT, GPOR, RICE, The United States Natural Gas ETF, LP (UNG)

Introduction:

Upward consumption and continued exporting growth to Mexico, paired with the fifth month in a row compared to the same month in the previous year of declines in production, indicates a continued STRONG bull market for natural gas, with strong indications of undersupply & increased demand/consumption/exporting. This data with continued historically low rig count for natural gas and oil rigs only being added in high oil to gas ratio plays will continue to create a decline in natural gas production, potentially continuing a trend of a steepening decline.

Overview:

  • July 2016 - US dry gas production came in at 2.213 tcf, DOWN 3.95% from July 2015
  • July 2016 - US dry gas consumption came in at 2.204 tcf, UP 6.15% from July 2015
  • Net Imports from Mexico/Canada remained approximately the same, only 1 BCF higher
  • Growth of exports to Mexico continues rapid increase, almost 112 bcf for July 2016, an increase of 10.91% from July 2015, one of the lowest rates of growth since August 2014
  • Model continues to show accuracy with around +/-2% variance in production and consumption data between forecast and actuals, with only 0.5% variance for consumption
  • Natural gas hits high on October 13th, since December 2014 (22 month high)

Opening:

After taking a short hiatus in covering natural gas fundamentals to travel and visit this great nation by driving coast to coast and racking up almost 15,000 miles in the process, I have decided kick the tires on my natural gas model and see how I have done. With the release of the EIA July 2016 natural gas report 2 weeks ago, I am able to look at my numbers compared with the actuals.

Although I prefer to have under one percent variance on my forecast vs. actuals, I will take 2.17% and 0.5% variance for production and consumption respectively. This shows I am overly conservative on production as I prefer to be (Figure 1). As an analyst, I feel I have conservatively been on the correct side of the variance, by overestimating production and underestimating consumption, in order to be skeptical of metrics that could indicate bullish conditions. Underestimating Canadian imports was a simple miscalculation of the ramifications of decreased production in the northeast and the need to import gas during to make up the demand, where bottlenecks often occur in takeaway areas, particularly as many gas producers curtail production due to pricing. Curtailing production continues to be less and less of an issue as many gas producers such as EQT and ECR have brought back on curtailed wells or opened up the choke on others.

Exports surprisingly pulled back in the last three months, continually declining from month to month from the previous year numbers in May, June, and July from 20.62%, to 16.67%, and 10.91% respectively, showing a trend of lower growth in Mexico. This will be an interesting number to watch if exporting growth increases during hot months when power demand increases in Mexico.

Canadian imports may continue to be on the higher than average side due to production slides in US dry gas production, but as it only represents less than approximately 180 Bcf per month, this is a fairly minor speed bump in the overall model and grand scheme of things.

Updates to Model

Even though Mexican export growth has slowed down over the last three months, Mexican exports continue to grow at over 10% growth. With pipeline expansion projects in South Texas and Mexico continuing to come online. I will use a flat 20% year-to-year increase for each month for all of 2016, 15% for 2017, and 10% for 2018. Even with the recent drop below 20%, I will maintain this assumption for another month to monitor the growth. This will also reflect the takeaway capacity from South Texas into Mexico, new pipeline facilities in Mexico, and increase in Mexican demand from a power generation/consumer standpoint.

Forecasting Next Three Months (Aug-Oct)

For August, I have a production decline of 2.5% and consumption growth of 4%, September & October 1.5% production decline, and a consumption growth of 2.5% for September, and 2% growth for October.

"Winter Carryout"

Id like to contemplate the term of "Winter Carryout" by natural gas analysts and suggest an edit of what is meant by this phrase. Analysts like to define this phrase as the level natural gas storage is at the first day of Spring, but I like to define it as the lowest point natural gas storage achieves, or the inflection point, before injections start for the Summer on a regular basis. For 2012, this would be the week ending March 9, 2012 that experienced a historically high, low of 2,369 bcf, before injections began for the rest of the shoulder season into the Summer. For 2016, a winter carryout and inflection point hit on March 25th at 2,468 bcf. This represents a difference of 16 days from one another and definitely not on the first day of Spring. With increase demand and declines of production, the inflection point of Spring withdrawal to Summer injection will be later and later into March or even into April.

Strategy

In order to capture the bullish conditions on natural gas, which continue to look more and more promising, with higher demand, lower production, limited to no additions in natural gas rig count, and increases in exports, I recommend taking a position to capture this uptick that will continue through March 2017. I would suggest players in the Northeast that capture above average marketing & differentials for the winter months, with some spot rates at significant premiums to Henry Hub. I recommend E&P firms with gassy portfolios (EQT, ECR, RICE, GPOR, CHK). I also recommend UNG, which is directly tied to the price of natural gas.

Summary

Natural gas remains in bullish territory. Buy and hold natural gas equities or options/futures to capture these gains that should continue through until the shoulder season starts to set up in March 2017. The possibility of a colder than average season would drive natural gas into newer territory. Today, October 13th, 2016, natural gas hit highs not seen since December 2014.

Disclaimer: Author holds long positions on UNG & ECR

Disclosure: I am/we are long UNG, ECR.