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Supply and Demand Outlook of the Natural Gas Market

October 24, 2017

October 2017 Edition: Supply and Demand Outlook of the Natural Gas Market

Did you ever wonder why energy prices seem to increase or fall with the price of natural gas? Our experts will dive into natural gas supply and demand to help give you a better understanding of how these commodities tie together.

Supply and Demand Outlook of the Natural Gas Market

Did you ever wonder why energy prices seem to increase or fall with the price of natural gas? Like so many other commodities, such as agriculture, where product prices are affected by weather and supply and demand, so too are energy prices. As we approach winter, the demand for heating fuels, such as natural gas increases, driving fuel and energy prices up. In this edition of Customer Insights, our experts will dive into natural gas supply and demand to help give you a better understanding of how these commodities tie together.

Recently, the current state of the supply and demand balance within the natural gas market has come to the forefront in light of its relatively new status as the fuel of choice for electric generation. Due to the increase of natural gas production from various shale formations across the United States, much attention has been paid to the supply and demand balance in the market. As production initially ramped up, the general U.S. natural gas market consensus was that we were entering a “supply glut cycle” since there was insufficient demand to balance abundant supplies being produced by the now accessible U.S. shale formations. This is evident in the futures market as the average monthly NYMEX settlement price cascaded from $4.390/MMBtu in 2010, to $2.460/MMBtu by 2016.

During this period of price decline, economics shifted both domestically and globally allowing new markets for natural gas to materialize. Domestically, new natural gas-fired generation facilities were built as a result of decreased prices, making natural gas more affordable to generate. Globally, U.S. natural gas prices were also low enough to spur investment in liquefied natural gas (LNG) export facilities in which excess amounts can be exported to higher priced markets throughout the world.

How will natural gas supply and demand dynamics settle over the next several years?

With new natural gas markets materializing in the form of domestic gasfired electric generation load, and foreign natural gas markets accessed through an expansion in LNG export infrastructure, opinions can be made for what is driving the market – abundant suppliers or increasing demand. We’ll explore both sides next.

Is demand outpacing supply?

In its latest Short Term Energy Outlook published in September 2017, the U.S. Energy Information Administration (EIA) found production up 1.4 billion cubic feet (Bcf) per day in 2017 versus 2016. Additionally, EIA is expecting production to grow by another 4.4 Bcf per day in 2018. While that represents a year-over-year increase of almost 5%, production growth will have to keep pace with LNG exports which are expected to grow by more than 10 Bcf per day between now and 2025. Additionally, domestic demand increases will be driven by the retirement of baseload coal and nuclear generation facilities over the next several years. Therefore, the production side of the equation will need to maintain robust growth rates in order to keep up with new sources of demand.

Another example of demand outpacing supply comes from recent natural gas storage inventory reports. For instance, storage inventories reported by the EIA reached a record level of 4,047 Bcf for the week ending November 11, 2016.

Despite having one of the top five warmest winters in history, storage inventories were drawn down by 1,996 Bcf by March 31, 2016, only 91 Bcf less than the five year average winter storage withdrawal. In addition, storage inventories withdrew at levels comparable to five year averages. These past circumstances may lead one to believe that electric generation and LNG continue to drive inventory reductions despite warm weather conditions.

Is supply outpacing demand?

On the flip side, there is also the case to be made for supply level outpacing demand. Current production levels have set numerous records over the past several months. Daily production in the U.S. has been over 74 Bcf per day for much of the last two months, compared with daily production levels of approximately 50 Bcf per day as recently as 2008.

However, the infrastructure linking new found shale supply to consuming regions does not yet exist. While many interstate pipeline expansions have come online over the past several years, many more have been delayed due to the current regulatory environment. One such expansion project, Nexus, has finally received approval from the Federal Energy Regulatory Commission (FERC), however permission to begin construction remains pending. Nexus is also currently only 50% subscribed, leaving some market analysts questioning the necessity of the expansion.

Other expansions, notably Mountain Valley Pipeline, Penn East Pipeline, and Columbia Pipeline Group’s WB Express and Mountaineer Xpress projects have not yet received FERC approvals. Many of these expansions were expected to be in service by the end of 2017. With FERC’s delay in approval, these projects will ultimately be years behind original schedule.

Another example for supplies continuing to outpace demand relates to the continued development of LNG export terminals in the U.S. A debate as to how much additional LNG capacity will actually get developed within the U.S. continues. Approximately two to three Bcf per day of natural gas demand comes from LNG. Several Mid-Atlantic and Gulf Coast LNG projects are under construction and expected to come online in the next few years. Beyond these, numerous other terminals representing the next wave of development are pending regulatory approval. The principal question facing this next wave of LNG infrastructure is whether these projects can produce enough volume in order to justify the significant investment required. The energy market’s volatility can create significant headwinds for capital projects requiring financial commitments over a twenty-year time frame, and LNG terminals are not exempt from this market reality.

Keep yourself informed.

While the debate continues as to which is the true market driver, abundant supplies or increasing demand, it is important for consumers to continue to have a strategy when it comes to managing energy costs. One thing that is certain with the ever increasing reliance on natural gas as an input for electric generation, fluctuations in natural gas prices will have an increasing impact on electric prices. Over the next two years, it is expected that another 27 GW of new baseload generation will be fueled by natural gas. This continuation as the fuel of choice for generation will serve to further increase the correlation between natural gas and electric prices. Therefore it will be imperative for energy users to be aware of market fundamentals affecting the supply demand balance of the natural gas industry.

Talk with your trusted AEP Energy advisor to keep up-to-date with natural gas price signals affecting energy prices. You may also want to ask AEP Energy advisor to send you AEP Energy’s weekly Energy Market Report, which provides a look at current and historical AEP – Dayton Hub energy prices versus NYMEX natural gas prices, plus much more energy insight.

Market Overview – AEP Energy Trading

Natural Gas

  • During the month of September, natural gas and power were mixed overall as temperatures were unseasonably cool to start the month but managed to approach near record highs during the latter half of the month.
  • Prompt month (October 2017) natural gas finished down $0.033/MMBtu to close at $3.007/MMBtu.
  • Balance of the year, November through December 2017 was off $0.073/MMBtu to $3.095/MMBtu.
  • In the calendar years, 2018 inched up $0.008/MMBtu to $3.046/MMBtu, whereas 2019 was up $0.028/MMBtu to $2.887/MMBtu.

Power PJM – Ohio

  • In power, while liquidations were quite weak at the beginning of the month, strength and volatility picked up by the middle part of the month, and as a result, power prices were up throughout the curve.
  • For example, October 2017 (prompt month) AEP-Dayton Hub on-peak was up $1.75/MWh to $34.20/MWh.
  • Balance of the year, November through December 2017 was up $0.23/MWh to $34.02/MWh.
  • In the calendar years, 2018 was up $0.33/MWh to $36.03/ MWh, and 2019 was up $0.36/MWh to $34.10/MWh at the close of September 2017.

Power Illinois

  • September 2017 PJM ComEd zone day-ahead on-peak closed $34.94/MWh, up $3.82/MWh from the August close.
  • August 2017 MISO Illinois. Hub day-ahead on-peak closed $36.39/MWh, up $5.02/MWh from the August close.
  • Record high temperatures lead to increased power prices.
  • The last week of September, LMPs hit record highs in Ameren pushing $140/MWh mark whereas in ComEd LMPs his pushed $185/MWh.

MISO Update

  • Planning Year 2018-2019 Loss of Load Expectation Study Report published September 29, 2017.
  • Zone 4 Illinois – the loss factor will drop to 2.0% for planning year 2018/19 from 2.6% in planning year 2017/18.
  • While the reserve margin increased 0.6% year-over-year, the loss factor dropped the same amount, so the two will offset one another.

Any references made to prompt month natural gas will normally be associated with a range starting the first day of the month through the final settlement of the respective prompt month natural gas contract. Other references to forward natural gas prices and all power prices will be based on a range starting the first day of the
month through the final day of the month.

AEP Energy does not guarantee the accuracy, timeliness, suitability, completeness, freedom from error, or value of any information herein. The information presented is provided “as is”, “as available”, and for informational purposes only, speaks only to events or circumstances on or before the date it is presented, and should not be construed as advice, a recommendation, or a guarantee of future results. AEP Energy disclaims any and all liabilities and warranties related hereto, including any obligation to update or correct the information herein. Summaries and website links included herein (collectively, “Links”) are not under AEP Energy’s control and are provided for reference only and not for commercial purposes. AEP Energy does not endorse or approve of the Links or related information and does not provide any warranty of any kind or nature related thereto. Forward-looking statements contained herein are based on forecasted or outlook information (including assumptions and estimations) but any such statements may be influenced by innumerable factors that could cause actual outcomes and results to be materially different from those anticipated. As such, these statements are subject to risks, uncertainties, fluctuating market conditions, and other factors that may cause actual results to differ materially from expectations and should not be relied upon. Whether or how the customer utilizes any such information is entirely its responsibility (for which it assumes the entire risk).

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