I was bearish on US natural gas prices even before the unseasonably warm winter of 2011-12 sent already depressed Henry Hub prices spiraling to record lows. In my article, Natural Gas: It Pays To Stay Liquid, I explained how rising production from prolific US shale gas plays ensured that supply would continue to outstrip demand.
This supply overhang worsened dramatically in late 2011 and early 2012. Consumption of natural gas usually peaks during the winter, when residential and commercial heating demand experiences its seasonal upsurge. Heating demand is the primary reason that the volume of natural gas in storage tends to rise from April to mid-November and fall from mid-November to the end of March.
A heating degree day (HDD) is a way to measure how much heat is required to bring a building to a comfortable temperature. To calculate HDDs, you subtract the average temperature each day from a base value of 65 degrees Fahrenheit. In other words, if the average temperature on a certain day were 40 degrees, that day would be worth 25 heating degree days (65 minus 40). The more HDDs, the colder the weather and the higher heating demand.
Between December 2011 and February 2012, the US experienced 13% to 18% fewer heating degree days than usual. HDDs were about 36% below average in March 2012, the warmest March on record.
Investors should remember that weather events are transitory and unpredictable; the cold winters of 2009-10 and 2010-11, for example, stimulated demand for natural gas.
Although the extraordinarily warm winter exacerbated the weakness in natural gas prices, excess production remains the biggest challenge.
The rapid development of unconventional oil and gas fields such as the Haynesville Shale in Louisiana, the Eagle Ford Shale in Texas and the Marcellus Shale in Appalachia has led to a surge in US natural gas production after years of declining output.
Source: Energy Information Administration
Chesapeake Energy Corp (NYSE: CHK) and a number of leading US gas producers have announced plans to reduce drilling activity targeting natural gas.
Chevron Corp (NYSE: CVX) hasn’t shut-in any wells in dry-gas plays but has made a concerted effort to minimize activity in these regions, though its output in the Marcellus Shale will likely increase because of drilling obligations that it inherited from its acquisition of Atlas Energy. The company’s first-quarter US gas production declined by 10% from a year ago.