After hitting a near three-year high of $4.20/MMBtu a week ago, natural gas prices have gone into a sharp reversal, leading to growing fears that the bull party could have come to an abrupt end. Natural gas futures slipped another 4% on Thursday to trade at $3.90/MMBtu after the U.S. Energy Information Administration (EIA) reported that natural gas injections rose by 49 billion cubic feet for the week ended Aug. 6, above the 44 billion cubic feet average estimate by Wall Street.
Gas prices have now declined four times in five sessions while hitting near three-year highs in the same stretch.
However, to the longs, last Thursday’s peak above $4.20 portends even better times ahead; to the bears, the extraordinary bull rally that has prevailed since the beginning of the year has finally run out of steam.
Here’s why the bulls still have the upper hand in this market.
Low Inventory Levels
According to the experts, temperature anomalies that have leaned towards the cooler side of the spectrum have been mainly responsible for slowing natural gas demand. Unfortunately for the bulls, this trend is expected to accelerate in the coming weeks as summer temperatures begin to decline, thus depressing cooling demand even further. Part of the expected cooldown is thanks to Tropical Storm Fred, which is expected to bring rain, wind, and cooler temperatures to Florida this weekend.
That said, short-sellers should be on the lookout for another potential hurrah for the bulls next week if the experts are right again–a late summer heat anomaly as summer temperatures peak that could again send cooling demand spiking.
There’s a great degree of uncertainty regarding next week’s injection, with estimates as low as 9 bcf to as high as 45 bcf, with 26 bcf being the mean as per Refinitiv estimates. If actual injection levels end up being closer to the mean, they will be considerably lower than 45 bcf recorded during last year’s corresponding period and a five-year average build of 42 bcf.
An even bigger positive for the bulls is the fact that natural gas inventory levels remain considerably lower compared to historical levels: Total U.S. natural gas stocks now stand at 2.776 trillion cubic feet, 16.5% lower from a year ago and 178 billion cubic feet below the five-year average.
In fact, the biggest worry right now is that U.S. natural gas stocks might not be enough to last through the winter. U.S. storage inventories have been struggling to refill this injection season, as strong export demand and robust power burns have left little gas left to replenish stocks.
The supply crunch is also being felt keenly in Asia and Europe.
According to a report in the Financial Times, natural gas prices have climbed sharply across Europe and Asia thanks to tighter supplies, lower production volumes in Europe, as well as lower exports from Russia.
Consequently, natural gas prices in Europe have surged to around 40 euros per mWh (~14/MMBtu) for the first time ever, with UK gas prices at the highest levels in 16 years. The situation is even direr in Asia, where gas prices have hit $15/MMBtu
The supply crunch is only expected to intensify over the coming weeks.
“If anything it’s surprising there hasn’t been more concern. In terms of additional supply there aren’t many options on the table globally. Russia is really the only discretionary source of supplies out there but we don’t know when additional deliveries might start. So traders around the world, from Japan to Brazil, are starting to watch European prices too,” Tom Marzec-Manser at ICIS has told FT.
The long-term natural gas outlook is even brighter.
Natural gas and LNG are now being viewed as the bridge in the transition from coal to renewable energy thanks to their more favorable emissions profile, as it generates 30% less carbon dioxide than fuel oil and 45% less than coal.
And, this is very likely to become a long-term trend.
Whereas a combination of several short-term tailwinds such as supply disruptions, the global economic rebound, and a pause in new LNG export plants have been driving the natural gas rally, there is a growing consensus that structural changes led by the clean energy transition mean that this is likely to become the new norm.
To exacerbate matters, investments in new gas fields have been falling over the years amid calls from climate-conscious investors and governments. For instance, high carbon prices in Europe are forcing utilities to quickly switch to natural gas; China is ready to be more reliant on gas than ever, while scores of governments in South and Southeast Asia are planning dozens of new gas plants to meet rapidly growing electricity needs. Further, the switch to natural gas can be made relatively quickly with limited capital deployments.
With few other viable options, the world will continue to rely more heavily on cleaner-burning gas to help achieve short-term green goals.
“No matter how you look at it, gas will be the transitional fuel for decades to come as major economies commit to meeting carbon emission targets. The price of gas is more likely to remain high in the medium term and increase in the long term,” Chris Weafer, CEO of Macro-Advisory Ltd., has told Bloomberg.
Natural gas rally boosts coal
Given this backdrop, it’s somewhat ironic that high natural gas prices have actually been giving a major boost to the fuel it’s supposed to replace: Coal.
Coal prices have surged 126% in the year-to-date to $146.25/ton, with high natural gas prices encouraging more coal generation.
This could become a point of contention for the environmentalists, with coal-related CO2 emissions expected to increase 17% this year as coal plays a bigger role in the energy mix. Consequently, the energy sector is expected to record a 7% increase in C02 emissions to 4.9 billion mt in 2021, a sharp turnaround after emissions fell 11% in 2020.