(John Kemp is a Reuters market analyst. The views expressed are his own)

LONDON (Reuters) – U.S. gas inventories are heading into winter at a moderate level after ultra-low prices earlier this year curbed production, encouraged record consumption by power producers and ended the threat of an inventory glut.

The lowest prices for more than two decades had offset mild temperatures that would otherwise have pushed working gas stocks in underground storage to record levels.

Instead, working stocks ended the first week in November only 175 billion cubic feet (5%) above the five-year average, well within the typical yearly variation (“Weekly natural gas storage report”, EIA, Nov. 13).

With stocks normalising, futures prices more than doubled between June and the start of November, from $1.50 per million British thermal units to more than $3.20.

What happens next depends critically on temperatures. Electricity producers have continued to retire coal-fired generators, ensuring marginal energy consumption in any cold spell will rely on gas more than ever before.

If there is a sustained period of colder than normal weather in December and January, such as in 2016/17 and 2017/18, inventories will dwindle rapidly and push up prices sharply.

If temperatures remain close to the seasonal average, or warmer, gas prices are likely to fall back towards the summer lows to limit a renewed inventory build (tmsnrt.rs/3fbEPXZ).

Gas prices have already started to drift down since this month on expectations that weather across the central United States will remain relatively warm in the near term.

INVENTORY CONTROL

Following a mild start to the year, gas inventories were more than 300 billion cubic feet above the five-year average at the end of March.

Stocks then climbed rapidly in the second quarter, with the surplus swelling to 460 bcf by the end of June as the run of mild weather and the absence of an extended heatwave held down power producers’ gas consumption.

Coronavirus lockdowns also hit both power and gas consumption, exacerbating the second-quarter surplus.

But the collapse of gas prices to multi-decade lows in June curbed further inventory additions, reducing drilling and production while encouraging power producers to maximise gas-fired generation.

The number of rigs employed drilling for gas fell to the lowest for more than 30 years in July, says oil and gas field services company Baker Hughes.

Gas production fell in June registered the first year-on-year decline for three years in a marked turnaround from 12% growth in June 2019.

At the same time, cheap prices encouraged maximum use of gas-fired power generation at the expense of coal.

Gas-fired generation increased its share of total electricity output to a record 44% in July, up from 41% a year earlier and 39% two years earlier.

As a result, electric power producers consumed a record 1,374 bcf of gas in July, up almost 8% compared from July last year.

WINTER DRAWS NEAR

By October, U.S. gas stocks had swelled to 3,955 billion cubic feet (bcf), just below the record set four years earlier (“Natural gas inventories end injection season near the record high”, EIA, Nov. 16).

Without the period of ultra-low prices over the summer, stocks would have ended much higher. But the next move will be determined by the interaction of structural gas consumption with weather-driven demand.

Power producers’ underlying gas consumption has been increasing in recent years as more gas-fired generation units enter service and coal-fired plants are decommissioned.

Electricity producers added 20 GW of extra gas-fired generating capacity between the end of 2017 and the end of 2019 while decommissioning 28 GW of coal-fired capacity.

Even more gas-fired units have been added this year alongside additional coal retirements, which will boost gas consumption further.

Gas-fired units added in recent years are generally more flexible and efficient than the coal-fired units they have replaced.

Gas units are therefore highly likely to operate this winter – unless prices rise high enough to prompt them to reduce hours and encourage a temporary reversion towards coal.

If there is a sustained cold snap, power producers’ gas consumption is likely to rise sharply, resulting in a very fast inventory drawdown.

Futures prices have already risen substantially between the end of July and the end of October to moderate power producers’ consumption and conserve remaining stocks.

If the winter turns out mild again, however, the surplus will re-emerge and futures prices will have to fall back towards summer lows to encourage gas-fired generators to run longer.

Related columns:

– Warm U.S. winter puts coal-fired power plants in deep freeze (Reuters, Feb. 6).

– Plunging U.S. gas prices intensify squeeze on coal (Reuters, Jan. 21).