Natural Gas Bottom Line – Natural gas prices pulled back this week through the Winter 2021-2022 strip as weather models turned progressively cooler. Prompt month natural gas finished Friday at $3.91/MMBtu, down 13c on the week. In contrast, both Summer 2022 and Winter 2022-2023 strips moved the other direction, climbing 8c and 11c, respectively.
Despite this week’s decline, gas prices have surged over the past few weeks. It is no surprise that prices would relax amid the cooler tilt in weather forecasts. Hot weather is still a possibility; the first week of August is expected to be cooler than average, but with warmer weather returning during the second week of August, according to Commodity Weather Group.
Adding to the downward Nymex pressure on Friday was a notice that Texas Eastern (TETCO), a pipe that flows Appalachian gas down to the Gulf Coast, would be allowed to again flow at maximum pressure on its 30-inch line. This enables more supply to reach the Henry Hub area, putting pressure on the benchmark’s prices. In contrast, this could improve Northeast producer’s basis pricing now that more takeaway capacity is available.
AEGIS recommends hedging with swaps for the remainder of Summer 2021 (Aug-Oct), a seasonal period where gas prices often see softness. Beyond the balance of Summer 2021, we recommend collars throughout the curve. A costless collar for the next two winter strips will take advantage of call skew in the options market. For Summer 2022, we recommend collars. A good example of the value is this: producers can now set floors at $3.00/MMBtu and still allow upside participation to $3.44 (mid-market) as of Friday. This implies slight call skew in the Summer, which is rare, and a hedging opportunity.
Weather. We moved this factor to reflect that it has become more bearish as forecasts have become slightly cooler. Much of the U.S. West has been affected by drought, and sweltering temperatures, which has caused a spike in power demand that coincided with reduced renewable generation (the drought has limited hydro generation). The situation has been nearly perfect for gas demand, but weather forecasts show milder temperatures moving forward, particularly for the Northeastern U.S... We still have this factor as slightly bullish and priced in.
Storage Level. The EIA reported a 36-Bcf injection for the week ending July 23. Storage levels are now at a 523-Bcf deficit to last year and a 168-Bcf deficit to the five-year average.
The ICE end-of-season level serves as a rough estimate of where traders see storage levels at the end of the injection season. The ICE end-of-season inventory level saw its first significant change in months, settling 50-Bcf lower at 3.58 Tcf (July 29). If inventory levels finish the season at 3.58 Tcf, that would be the second-lowest in the last five years (behind 2018) and 160 Bcf below the five-year average. We have this factor as bullish and slightly priced in as the storage path trajectory has been relatively bullish.
Power Generation. Gas-fired power generation has surprised to the upside so far this summer, thanks to abnormally warm temperatures. The market was expecting power to underperform due to price and a higher renewable load; however, this has not been the story thus far as gas-fired power generation numbers have been relatively inelastic to prices. Gas-fired power generation may move lower as temperatures cool, and the run-up in prices at Henry Hub encourages more coal-to-gas switching. Still, this factor remains a bullish surprise on our Factor Matrix as we believe the market has not completely priced in the strong performance of gas-fired power generation.
S&D Balance. The S&D balance started trending looser toward the end of May but has since tightened back up to levels observed earlier in the year, near the 2017/2018 trend line. Despite the 81c (26.10%) rally in gas over the last two months, the balance has continued to tighten, which means that prices will have to rise enough to dampen demand or encourage an increase in supply if the U.S. is going to enter the winter season with healthy inventory levels. If the S&D pattern reverses, we will re-evaluate, but our stance is that the gas market is tight and that certain parts of the curve are undervalued. We have this factor as a bullish surprise on our Factor Matrix.
Trend. The rally in gas prices seems to have lost a little steam this week. Gas prices are still in an upward trend, and buyers remain in control. Considering gas has rallied 81c since the start of June, the recent consolidation near $3.90 bodes well for gas prices in the short term as it seems to have become a key support level. We moved this factor to the left slightly to reflect that it has become somewhat less bullish.
LNG. Recent gas flows to LNG facilities are still down by an average of 0.7 Bcf/d from their record level of 11.74 in early April. Still, the 7-day moving average is at around 11.05 Bcf/d and marks a significant improvement.
LNG demand should provide bullish support this summer, with current global arbs at record levels. According to Bloomberg data, the prompt TTF-HH spread has risen from $3.09 in January to an eight-year high of $7.26/MMBtu on June 21. The global benchmark's (TTF and JKM) rallies have outpaced Henry Hub, further widening the export arbitrage. Current arbs suggest that LNG should be running at capacity, and new trains coming online at Venture Global's Calcasieu Pass and Cheniere's Train 6 should provide 1.3 Bcf/d of demand.
Mexico. Exports to the country are up nearly 2 Bcf/d Y-o-Y. If the seasonal pattern of increased exports to Mexico during the summer season holds, we could see even more natural gas make its way to our neighbors in the south. Exports to Mexico have already begun to ramp up, as flows during the week ending July 2 averaged 7.18 Bcf/d, only 0.15 Bcf/d removed from its high reached in mid-April. We have this factor as bullish and priced in on our Factor Matrix.
Speculators. CFTC data shows speculators have been adding length since net positions fell to -2,778 contracts during the week of March 16, 2021, which coincided with the beginning of the recent upward move. According to the CFTC, the net length of total positions by managed money is approaching 103,655. Net length is still well below its record-high of 154,116 contracts last October; however, it is at its highest seasonal level since 2018.
If fundamentals improve, or the market reveals more tightness, managed money length could increase and pressure prices upwards. We have this factor as a bullish surprise.
Renewables. We moved the Renewables factor to the right slightly as wind and hydropower have begun to underperform. Both sources of power are on track for year-over-year losses in power generation this June, despite a higher load. Further, wind generation has begun its seasonal decline, which will clear the way for other fuel sources as we enter peak electricity consumption season.
Hydropower is at its lowest seasonal level in at least the last three years. Droughts have reduced capacity at several hydropower facilities in the U.S. West, including the Hoover Dam. If the drought conditions worsen, more hydropower capacity losses could be on the way. Despite these developments in hydro, renewables remain a bearish surprise in our Factor Matrix.
Dry Gas Production & Associated Gas Production. These are the most important drivers of gas prices in the next 18 months. A material increase in either would pressure prices lower and loosen the supply & demand balance. We have both factors as a bearish surprise.
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