Summer 2021 is not over yet, but it seems near certain that it will be stamped in the minds of the energy industry for years to come. Energy prices have skyrocketed, but that isn’t news. The stunning element is that there is no clear-cut singular factor or event to focus on that is driving the surging market.
The last time the 12-month strip for natural gas was this high ($4.38 as of 9/10/21 and rising on 9/13/21), we were coming off the polar vortex in January and February of 2014. At that time, the 12-month strip peaked just under $5. It retreated throughout most of 2014 and finished the year below $4. Since then, the 12-month strip has remained under $4 for more than 6 years through cold and warm winters, mild and blazing summers, increased and decreased production, amongst many other energy market events. As summer 2021 has progressed, the nearly 7-year cap on energy prices has quickly vanished.
It seems likely at this point that increased demand for natural gas and electricity are at the core of the dramatic increase. Demand for liquified natural gas (LNG) continues to surge, along with exports of natural gas to Mexico and the demand for natural gas for electric generation. But there have also been some supply elements at play too, especially over the past few weeks.
Hurricane Ida was most compared to Hurricane Katrina in the build-up to it making landfall in Louisiana. In both instances, the hurricane knocked drilling in the Gulf of Mexico offline for an extended period. However, the impact is far less severe in 2021 when 20% of US drilling occurs in the Gulf whereas in 2005 it was the inverse. More than 80% of all drilling occurred in the Gulf of Mexico back then. While it is still noteworthy to lose offshore drilling in 2021, it is not the same as 15+ years ago.
News is starting to emerge that there were other impacts, or non-impacts, from Ida that affected the energy market. Specifically, there was an expectation that the storm would impact multiple LNG processing plants in western Louisiana. While the offshore drilling was stopped, the expectation was the processing at those plants would also be halted and the impact to supply and demand would be nominal. Ida however turned slightly eastward and largely avoided those plants. That left them working and demanding natural gas for liquification when there was less natural gas available. While this may not be the only reason for a run-up in energy, it seems to certainly be a contributing factor.
The impact to energy prices has been steady all summer, but the most recent couple of weeks have been extremely dramatic. In the 10 trading days from August 25 through September 9, the prompt month natural gas contract has added an astonishing $1.134 or 29%. Over the same period, the 12-month strip average has gained 70.2 cents or 19%.
The increases are even more astonishing when looking back over the whole summer. A reverse timeline:
From April 6 to September 9, the prompt month has more than doubled! For another perspective, we can look at the monthly prompt month expiration price. April 2021 expired at the end of March at $2.586. September 2021 expired at the end of August at $4.370. The 5-month increase tallied $1.784 or 69%. And remember, these are all summer prices. We are just now starting to focus on winter prices with October 2021 trading as the prompt month. January 2022 was north of $5.20 on September 9 and north of $5.40 on September 13.
The overarching summary of all supply and demand factors is the weekly inventory report that comes out every Thursday. It shows how much natural gas is in storage in the US and how much was injected or withdrawn for the previous week. It is very much the delta between supply and demand. When supply is greater than demand over the course of a week, then the excess is injected into storage. This is almost always the summertime. Conversely, in the winter when demand exceeds supply, the extra demand is withdrawn from storage.
Tracking these storage levels week to week is one thing, but tracking them year-to-year is where analysts really start to unravel what is happening. At the beginning of 2021, inventories were nearly 200 BCF higher than at the beginning of 2020 and nearly 200 BCF above the 5-year average. In short, we were doing well compared to historical benchmarks. Over the course of the remainder of the winter and this summer so far, we have seen that surplus shift to a deficit. 2021 is now more than 200 BCF behind the 5-year average and nearly 600 BCF behind where we were at this same time in 2020. This whopping 800 BCF shift from surplus to deficit is represented in the significant price increases that have occurred throughout this summer.
We will conclude this commentary with both a scary thought and an uplifting thought.
The scary piece is to imagine how volatile prices will be this winter. Natural gas prices are usually more volatile in the winter than the summer. Given what we have seen thus far this summer, a cold winter is hard to fathom from a price perspective.
On a more positive note, long term energy prices are still quite affordable and should be looked at closely by energy buyers. While winter 2021-2022 is trading near $5, winter 2023-2024 is trading around $3.30 and winter 2024-2025 is around $3.15. Given the global demand for natural gas, energy buyers should be thinking very hard about locking in long term at the more than affordable prices.
Download a PDF version of this week’s Market Commentary.