A reader of the Musings wrote me to say he enjoyed reading my newsletter but he took issue with certain statements I made about the natural gas market in the latest issue. I wrote that "At the root of the gas price problem [low gas prices] is a lack of significant natural gas demand growth coupled with a very modest decline in gas production due to the drop in drilling during the first half of 2009." The writer suggested that I obviously hadn't looked at the latest data from the EIA's natural gas monthly report. He wrote that "claims that production declined and there is no growth in consumption are COMPLETELY WRONG." He also said "in January of 2010 we consumed more natural gas than ever before and had fewer heating degree days than January of 2009."
Natural gas data on a monthly basis can be highly distorted and misleading. I based my claim on production by examining the Form 914 gas production survey data collected and reported by the EIA montly. The latest initial estimate for January 2010 showed 63.43 Bcf per day, up from December but below the industry peak in February 2009 of 63.63 Bcf/d. Down is down. Based on the revised monthly data for December 2009 versus that February 2009 peak production showed a decline to 62.84 Bcf/d from 63.58 Bcf/d.
What we are starting to see is a small rise in production due to the recovery in gas drilling in the last six months and the almost total focus on gas shale wells that have large initial production volumes before declining rapidly in the subsequent 12 months. If gas production is beginning to grow, then unless gas consumption rises the industry is faced with weak gas prices for some period of time. For industry players the quesion is: How long is that period of time?
The challenge with consumption of natural gas is understanding the seasonal variablity of demand. Yes, the amount of natural gas consumed in the U.S. this January was 5.1% higher than January 2009. The heating degree data shows that January 2010 was lower than last January, but the cumulative heating degree days for November through February was exactly equal to the prior year period. What may be more telling is to look at the annual consumption of natural gas for the country rather than months. On that basis, total gas consumption for 2009 was 22.84 Tcf, lower than the 23.23 Tcf consumed in 2008 and the 23.10 Tcf used in 2007. That trend is more telling since winter temperatures can be variable but the impact of the recession on commercial, industrial and electricity use of gas probably explains the drop last year.
We welcome reader comments and critiques, but caution about relying on spot data for determining the health of the energy market. This is especially tricky when dealing with the highly seasonal natural gas data. While heating degree days for the winter were flat year-on-year, based on the April 1st article in the Houston Chronicle, Houston experienced an extremely cool winter compared to the prior year. This December our average temperature was 3.5 degrees below the prior year. January, February and March were 2.8, 6.9 and 3.2 degrees cooler than their prior year month. Houston is a huge natural gas consumer for heating, cooking and generating electricity that is also used during the winter. Therefore, while overall heating degree days may be flat, where they were higher could have a disproportionate impact on natural gas consumption.
As a Wall Street analyst I always had to draw conclusions about the direction of the energy market based on spot, preliminary and incomplete data and then translate the impact into its implication for energy company share prices. It's a dangerous game to which I can personally attest, but it is good discipline to be forced to look at recent data seeking variations from our beliefs. We stand by our comments in the Musings, but fully recognize that the natural gas market has many cross currents currently at work and the market may be about to change direction from its recent trend.