LONDON (Reuters) – U.S. natural gas inventories remain elevated, but the surplus to the five-year average has been shrinking, despite milder than normal weather this winter, signalling the market is tightening and prices are likely to rise in 2021.
Hedge funds and other money managers are already anticipating a tighter production-consumption balance, accumulating a futures and options position that is in the 86th percentile for all weeks since the start of 2010.
Data from the Energy Information Administration shows working gas stocks in underground storage totalled 3,009 billion cubic feet (bcf) on Jan. 15, the highest level for this point in the year since 2016.
Inventories were 198 bcf, or 7%, above the average for the previous five years, but the surplus has fallen from 466 bcf or 18% at the end of June (“Weekly natural gas storage report”, EIA, Jan. 22).
The surplus has narrowed even though heating demand has been around 11% below average during the heating season that started in July, which would have been expected to boost stocks.
Falling inventories signal a market progressively tightening as low prices curb production growth and accelerate both consumption and exports.
After rising prematurely to more than $3.30 per million British thermal units by late October, anticipating a cold winter that failed to materialise, prices subsequently fell back below $3.00, helping offset mild temperatures.
In 20 of the 29 weeks since the end of June, weekly inventory builds have been smaller, and draws have been larger, than the five-year average, confirming that the market is tightening.
The tightening trend has been especially pronounced since the middle of September, with inventories building less, or drawing more, than the five-year average in 14 out of the last 18 weeks.
Low prices have ensured gas drilling has barely increased since the middle of last year, in contrast to the rapid increase in the number of rigs drilling for oil.
The number of gas rigs has increased by 18 since the middle of August compared with an increase of 117 extra rigs for oil, oilfield services company Baker Hughes says.
At the same time, low prices have ensured gas-fired generators remain the primary choice for power companies at the expense of running coal-fired units, ensuring gas consumption has remained high.
In November, as gas prices fell, gas and coal-fired generation declined compared with the same month a year earlier, because of warm weather, but gas generation was down 8% while coal fell 17%.
Tightening inventories have already drawn the attention of hedge funds and other money managers, who have boosted their net position in futures and options from 1,500 bcf at the end of June to more than 2,700 bcf last week.
At one point in October, hedge funds increased their position to almost 3,500 bcf, putting it in the 96th percentile since 2010, but mild weather subsequently foiled expectations for such a rapid tightening of gas supplies.
Nonetheless, much of the over-production and surplus inventory accumulated in the first half of 2020 has been eliminated by the long period of low prices last year.
Unless the weather is even more unusually mild in the second half of the heating season, or the economy slumps back into recession, inventories should converge on the average by the start of the second quarter.
Futures prices will have to rise to encourage more drilling and prevent inventories falling below average later in 2021.
The opinions expressed here are those of the author, a columnist for Reuters.