Natural Gas Prices Are Heating Up

Find out why the recent improvement in natural gas prices is a welcome respite for upstream oil and gas producers.

By Steve Hendrickson

Natural gas prices have improved recently, providing a bright spot in what has been a dismal landscape for U.S. upstream oil and gas producers. The near-term fundamentals for natural gas prices look favorable due to a variety of factors. Evidence can be seen by the year-over-year increases in natural gas spot prices (see map below).

U.S. Spot Natural Gas Prices
Source: U.S. Energy Information Administration

Continued declines in gas-directed drilling — As seen in the chart below, U.S. gas-directed drilling has declined from 200 rigs in 2019 to about 70 rigs in 2020. This significant decline in rig count is moderated somewhat, however, by improved well productivity in the plays that are still active, notably the Marcellus and Haynesville.

Rig Activity By Product
Source: Baker Hughes North America Rotary Rig Count

Massive decline in oil-directed drilling — The dramatic decline in U.S. oil-directed drilling is and will continue to put downward pressure on associated gas production. We estimate that about 25% of U.S. gas production is from liquids-rich plays.

High natural decline rates from unconventional plays — By our estimate, unconventional plays account for at least 70% of natural gas production and these plays have first-year declines of 25%-40%. The lack of drilling activity in many of these plays will lead to immediate and relevant reductions in supply.

Continued reduction in coal usage for power generationAccording to the U.S. Energy Information Administration (EIA), coal-fired power generation (which accounts for almost all coal consumption) was down 30% in the first half of 2020 compared to the same period in 2019. Natural gas-fired generation was the big winner, increasing 9% over that time.

Despite the ongoing pandemic, electricity demand has rebounded — Although electricity usage was down 4% through May 2020 compared to the same period in 2019, electricity demand has largely recovered and was 1% over the prior year amounts in June and July, according to the EIA's U.S. Electric System Operating Data.

All of these factors are contributing to an improved outlook for natural gas prices, despite the headwinds of the pandemic-induced recession. In its latest Short-Term Energy Outlook, the EIA predicts the spot price for natural gas at Henry Hub will continue to rise during the remainder of the year, reaching $3.14/MMBtu by February and averaging that price through 2021. That would be a 54% increase over the expected 2020 average.

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About the Author:

Steve Hendrickson is the President of Ralph E. Davis Associates, an Opportune LLP company. Steve has over 30 years of professional leadership experience in the energy industry with a proven track record of adding value through acquisitions, development and operations. In addition, Steve possesses extensive knowledge of petroleum economics, energy finance, reserves reporting and data management, and has deep expertise in reservoir engineering, production engineering and technical evaluations. Steve is a licensed professional engineer in the state of Texas and holds an M.S. in Finance from the University of Houston and a B.S. in Chemical Engineering from The University of Texas at Austin. He currently serves as a board member of the Society of Petroleum Evaluation Engineers and is a registered FINRA representative.

Steve Hendrickson

PresidentRalph E. Davis Associates

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