In its weekly release, the Energy Information Administration (EIA) reported a slightly larger-than-expected 266 billion cubic feet (Bcf) drop in natural gas supplies for the week ended Jan. 8, 2010. The inventory decline was the sixth in as many weeks and significantly exceeded the 5-year-average drawdown of 76 Bcf and last year’s withdrawal of 88 Bcf. This has finally started to dent the record-high storage amounts, as frigid temperatures continue to chill major gas-consuming regions in the U.S.
However, notwithstanding the near-record draw, gas in storage remains well above the normal range at this time of the year. This can be attributed to nationwide net injections that continued through the end of Nov. 2009, though the heating season officially began on Nov. 1.
The current storage level, at 2.85 trillion cubic feet (Tcf), is up 3.8% from last year’s level and 4.4% above the 5-year range (as clear from the chart below from the EIA). Current stocks are 103 Bcf above last year’s level and 121 Bcf above the five-year average.
Continued strong domestic production (from a number of unconventional natural gas fields) and recessionary consumption (due to the economic downturn), particularly in the industrial sector, are at the core of the commodity’s current woes. Stockpiles went on to create new highs last year as the economic downturn ate into demand, and natural-gas producers continued to unlock new supplies from onshore natural-gas fields known as shales. Months of mild weather further weakened demand for the fuel to heat homes and businesses.
Although the withdrawal was more than anticipated, it was not enough to strengthen natural gas futures prices on the New York Mercantile Exchange (NYMEX) which slumped 3% following the EIA release. Further exerting downward pressure on the commodity were worries relating to expectations of warmer weather in the coming months. The demand for natural gas for heating is likely to remain subdued in the absence of frigid temperatures.
However, the commodity has fared extremely well during the past month (Dec. ’09), giving returns of over 35% on the back of sustained inventory drawdown. Natural gas prices ended 2009 at about $5.50 per million Btu (MMBtu), up more than 100% from their September 2009 lows. This was also helped by the news that oil major ExxonMobil (XOM) has decided to pick up unconventional natural gas producer XTO Energy (XTO) in a $41 billion all-stock deal.
Nevertheless, we are not fully convinced about the sustainability of natural gas’ recent gains, as the specter of a continued glut in domestic gas supplies (storage levels remain 4.4% above their 5-year average) still weighs and the inventories remain higher compared to averages for this time of year. This translates into limited upside for natural gas-weighted companies and related support plays.
The gap between supply and demand is expected to reverse in the coming months as producers bet on forecasts for colder weather and the lagging effect of the sharp drop in domestic drilling activity takes hold.
Until then, we remain cautious on natural gas-focused E&P players such as Chesapeake Energy (CHK), Anadarko Petroleum Corp. (APC), Devon Energy Corp. (DVN) and EnCana Corp. (ECA).
We also maintain our Neutral recommendations for land drillers such as Nabors Industries (NBR) and Patterson-UTI Energy (PTEN), as well as natural gas-centric service providers such as Halliburton Company (HAL). Although we expect the land rig count to continue with its steady rise during 2010, the large amount of excess capacity in the sector will weigh on dayrates and margins well into the year.
Oil majors like BP Plc (BP) that have significant natural gas operations are also expected to remain under pressure until pricing and demand improve further.
Read the full analyst report on “XOM”
Read the full analyst report on “XTO”
Read the full analyst report on “CHK”
Read the full analyst report on “APC”
Read the full analyst report on “DVN”
Read the full analyst report on “ECA”
Read the full analyst report on “NBR”
Read the full analyst report on “PTEN”
Read the full analyst report on “HAL”
Read the full analyst report on “BP”
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