Volatility Will Eventually Descend on US Natural Gas Prices

A natural gas adoption cycle is underway in the United States, as the country increasingly sources and consumes its own very cheap production. That natural gas (NG) prices have remained weak in the face of so much supply is no surprise. Rather, it’s the expansionary integration of natural gas into the US economy, and in particular the advent of LNG exports, that continues to amaze with an absence of any effect on price.

Natural gas has been rising steadily in the total US energy mix. And oil’s share—as in the rest of the world—has been declining. Just a decade ago oil held a commanding 40% share of US energy consumption. Today that share has nearly fallen to 35%. Given the share gains in natural gas, now pushing towards a 29% share, it’s reasonable to foresee a time when NG, not oil, becomes the primary energy source of the US economy. | see: Share of Oil vs NG in US Total Energy Consumption 2004-2015.

There is little doubt the continuing downward pressure on North American NG prices are due to the rate of production growth. Dry production has leapt by 12% in just the past 24 months alone, from 66.3 to 74.4 bcf/day (billion cubic feet per day). Some producing regions like the Marcellus have actually managed to grow production by an order of magnitude: output is up ten-fold, since 2009. That’s just crazy.

But how about demand? Exports by pipeline to Mexico are also up strongly, and will continue to grow. And US demand, driven by cheap supply and fresh deployment of NG-fired power generation, is on track to have now advanced 14% over 2010 levels. US demand will keep rising.

Most important of all, the really big new demand-pull on supply—LNG exports—is just now starting to hit. The US has now approved over 12 bcf/day of LNG exports, which is to be fully realized on a rolling basis between now and the year 2021. In a market that’s currently producing around 75 bcf/day, that is a significant volume of energy to be exporting. At TerraJoule.us, I’ve discussed more fully how this will play into the energy trade balance of the United States. The question remains: when will prices finally move?

It’s becoming exceedingly difficult, given the supply response already underway in North American oil production to low prices, to envision how the same supply response will not also get underway in NG production. Indeed, 2016 year-over-year NG production is likely to be zero. So again, the question: when will natural gas prices makes a move?

The only answer that’s possible now, given such low visibility currently into overall energy demand in the global economy, is that natural gas prices can’t possibly stay both low, and stable, over the next five years. Too many users, from the US to Mexico to Asia have started to catch on to the value proposition of exceedingly cheap North American NG. The unusual equilibrium in supply and demand is precisely the kind of stability that will inevitably generate instability. Volatility will come to the price of natural gas.

–Gregor Macdonald