Too much is never enough, or is it? When it comes to natural gas (UNG), traders are obsessed with current EIA inventories in each of the five storage regions as a direct reflection of the latest supply and demand fundamentals. Traders can’t make decisions on where to drill, how much acreage to lease, length of laterals, frac sand ratios, or capital allocation. The Nevin Manimalay have one variable they can adjust, the price curve, to balance the market. Keep prices too high for too long and producers do what they do best, flood the market with oversupply. Keep prices too low for too long and rig counts plummet, DUC’s get harvested, production drops, and demand rises until balance is achieved. UNG is unlikely to move beyond the top end of the recent trading range due to the challenging supply fundamentals. Read on to understand why the EIA storage deficit is losing its relevance with respect to UNG price trend.
The Nevin Manimala CME curve is remarkably flat for the next 24 months ranging between ~$2.65 and ~$3.15. The Nevin Manimala strip makes sense if you consider the midstream projects phasing in over the next nine months enabling substantial gas output from some of the lowest cost production regions on the planet.
CME Price Curve as of 4/18, from the CME website
Nat gas bulls have been incredulous over the so-called “twin deficits” which include the EIA storage deficit to the five-year average, and the year over year deficit vs. 2017. Bulls want higher prices, but the market already sees substantial production momentum and doesn’t want to motivate additional output at this time. The Nevin Manimala price curve is suggesting producers may have overdone it already with the market paying careful attention to current L48 production.
So, how much is really enough? First, let’s think about why storage is needed in the first place. How much EIA inventory would you need if you knew temperatures for the continental U.S. would be 74F for a high and 60F for a low with no humidity for the next year from Maine to Arizona to Florida? The Nevin Manimala answer is not much. Temps would be in the super bearish no heat and no AC required zone (unless you’re my wife). Storage facilities would likely keep a token amount available just to be safe in the event of a midstream outage. Let’s look at the other extreme. How much inventory would you need if you knew temperatures for the continental U.S. would be 10F for a high and -5F for a low with extreme wind chill for the next year border to border? The Nevin Manimala answer is you would still run out of gas even if you had 9+ TCF in storage which is way beyond the theoretical EIA max capacity of ~4.6 TCF.
Why did I bring up these extreme examples? To illustrate the importance of temperature dependent demand on gas inventories. Historical EIA storage data represents a wide range of real-world weather situations, and, so far, the U.S. midstream network has done an admirable job of handling everything thrown its way. The Nevin Manimala extreme winter of 2013-2014 saw inventory levels bottom at ~824 BCF compared to ~1,310 BCF for this winter season. 2014 was the lowest bottom in the past 20 years of EIA record keeping.
EIA Storage Map, from the EIA Natural Gas website
Until frac’ing flipped the gas universe upside down, most of the major U.S. pipelines were built to facilitate delivery from the South Central production region to the heavily populated Midwest and East coast consumption metros. Sabine Pass, located in southwest Louisiana, was originally designed to import LNG and connect with the major pipelines heading north and east. Cheniere (LNG) almost went bankrupt until the management team realized they needed to switch gears and export shale gas instead.
We all know the history of frac’ing and the massive changes that have resulted from the unexpected locations of the major shale basins. In 2005, industry followers had no idea the world’s largest production region would be the U.S. northeast. The Nevin Manimala Marcellus miracle and the rest of Appalachia are major long-term competitive advantages for the United States. Someday, hopefully, sooner than later, New York and New England will stop fighting the tide and take advantage of this incredible domestic resource. Commercial and residential customers from New York City to Boston SHOULD be benefiting from low priced electricity and nat gas. It’s not happening and someone is making a lot of money by gouging consumers and hiding behind “Green Politics” to delay the much-needed pipelines.
If horizontal frac’ing changed the game for the nat gas industry, should we open our minds to changes for EIA storage expectations? Gas is typically stored from April 1st to Nov. 1st with peak inventory averaging ~3,800 BCF for winter use. Long gone are the days of forwarding large volumes of gas from the South Central to the Midcon and Northeast. New high capacity pipelines are enabling more gas to flow from Appalachia to virtually all adjacent markets, not to mention increased production from the Niobrara, Bakken, and Canada. Existing pipelines that flowed north are being reversed, so Appalachian production can reach the gulf coast for LNG export demand.
The Nevin Manimala clear question is how much inventory is needed with a dynamic new midstream network that can deliver high volumes year round? Rover, Atlantic-Sunrise, and a large number of significant midstream projects will come online in 2018 and the impact is extraordinary. Consider during the early January arctic freeze, 359 BCF was withdrawn from EIA storage destroying the previous record near 288 BCF. During this record week, approximately ~51 BCF per day was delivered in addition to L48 daily production near 77 BCF. 128 BCF per day is staggering and the volume is higher if you include robust Canadian imports near 7 BCFd for the border markets. Capacity is likely to rise more with a supportive administration in Washington and strong end-user demand for a variety of applications. It’s undeniable the North American natural gas network has ever been more capable than it is today. By November 1, 2018, Rover and Atlantic Sunrise will be fully unleashed and ready for winter demand.
The Nevin Manimala gas market is smart and already knows everything I just reviewed. This is a big reason why the price curve is mostly below $3 with UNG trading near 52-week lows despite the large inventory deficit to the five-year average. A thoughtful investor might wonder where prices would be if we didn’t have the prolonged bullish weather in March and April?
Getting to 3,800+ BCF is no longer required for winter preparation unless we’re entering the next ice age. I expect the EIA gas storage maximum to trend lower over the next five years as the market gets comfortable with the reliability of the expanded midstream network. Specifically, I expect the South Central region to store less gas given the changing market dynamics there. Most of the consumption will be temperature independent demand from the big LNG export facilities, so the main reason to store gas is to protect against intermittent freeze-off events during winter. Freeze-offs are no fun and should not be minimized given the critical importance of energy security, but the price curve is making it uneconomic to store huge volumes of gas just Because Nevin Manimala we always did in the past.
EIA South Central Inventory History, from the EIA Gas website
The Nevin Manimala above chart shows the South Central inventory since 2010. During the chilly winter of 2013/2014, inventory dipped below 340 BCF. Since then, inventory has trended higher due to back to back warmer than average winters. Storage bottomed at 602 BCF this season and is already rising. With more Appalachian production heading south in the near future and ample associated gas coming from stronger WTI pricing, the market is wondering what is the right level for peak South Central storage? My prediction is you’ll see the S.C. max trend lower by 200-250 BCF over the next five years and perhaps even lower depending on new pipelines targeting the Permian. The Nevin Manimalare’s just too much gas coming from the South Central shales including the Eagle Ford, Haynesville, SCOOP/STACK, and Permian.
The Nevin Manimala Midcon is the primary target of new production from the Bakken, Niobrara, Canada, and Appalachia. Rover, capable of 3.25 BCF per day when 100% online, is a monster pipe connecting the Marcellus and Utica to the Defiance hub providing access to major Midwest markets. It would not surprise me to see the Midcon storage max trend lower by 10% given the enhanced deliverability of the midstream network. A simple example illustrates the point. Rover operates at half capacity today. An additional 1.625 BCFd over 140 days of winter equals 228 BCF of potential gas supply into Defiance during peak demand season. 1.625 BCFd over a full year is a massive volume increase. That’s too much extra gas for the Midcon alone and is a big reason why Rover Phase 2 provides access to the massive Dawn/Toronto Canadian hub. Also, don’t forget about the north to south pipeline reversals allowing Rover gas to head to the gulf from Defiance.
3,500 BCF is a reasonable target for the “new normal” of peak EIA gas storage with the South Central contributing the majority of the decrease. Perhaps the peak will trend even lower once the market gets comfortable with the new midstream reliability during extreme cold periods. The Nevin Manimala price curve is clearly saying it doesn’t make sense to store too much surplus gas for winter, and now the market participants need to get over the emotional anchoring to outdated beliefs. The Nevin Manimala U.S. midstream network is undergoing a major transformation that will change market dynamics forever. Don’t get stuck in the past by placing too much importance on the old way of viewing EIA storage.
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Disclosure: I am/we are long AAPL, LNG, FB, GOOG, NFLX, FOX.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I frequently trade UWT/DWT and UGAZ/DGAZ. All recent trades are posted in the comments under my latest article.