Natural Gas Looking Plentiful

July 17 (Bloomberg) -- Natural gas futures, the worst performing commodity in 2009, may fall to seven-year lows as demand drops with the deepest recession in half a century.

Because chemical plants and power producers are burning less, gas inventories rose to 2.886 trillion cubic feet in the week ended July 10, the highest for any week in July since at least 1994, the U.S. Energy Department reported yesterday. Natural gas is down 36 percent this year on the New York Mercantile Exchange, compared with a 39 percent gain in oil.

The world’s biggest hedge funds hold their largest position against Nymex natural gas futures in seven months, betting at least $5.8 billion on lower prices, Commodity Futures Trading Commission data show. A price drop will hurt producers BP Plc and Exxon Mobil Corp. while lowering costs for power and household air conditioning this summer.

“There’s too much supply and not enough demand,” said Michael Hiley, head of energy OTC at Newedge USA LLC in New York, who expects gas to drop below $3 per million British thermal units by October. “Storage is going to be like a big balloon blown up and you can’t add any more air.”

Gas futures for August delivery to the Henry Hub in Erath, Louisiana, rose 0.1 cent to settle at $3.669 per million Btu at 2:53 p.m. today. Gas was last below $3 in August 2002, one month shy of seven years ago.

Prices on April 27 touched $3.155, the lowest since Sept. 5, 2002, on concern the supply glut will persist throughout the year. Futures rose 8.8 percent this week, after gas climbed 38.5 cents, or 12 percent, to $3.668 per million Btu yesterday.

Net-Short Positions

Hedge fund managers and other large speculators increased their net-short positions in New York futures by 5 percent in the week ended July 7 to 160,481 contracts, approaching the record 177,606 contracts in the week ended Sept. 30, the CFTC data show. Short positions are bets that prices will fall.

Inventories are 19 percent above the five-year average, according to the Energy Department. Industrial gas consumption is forecast to drop 8.2 percent this year and total demand will slide 2.3 percent to 62.1 billion cubic feet a day, the department said July 7 in its monthly Short-Term Energy Outlook.

“I wouldn’t be surprised if we get Nymex Henry Hub prices at $2-something” in the next 30 days, said Rehan Rashid, an analyst at Friedman Billings Ramsey in Arlington, Virginia. “There’s too much supply, weather is pretty nice and then the overall economy.”

Exxon Mobil pumped 10.195 billion cubic feet of gas a day during the first quarter, 49 percent of it in Europe, a public filing showed. U.S. fields accounted for 12 percent of the Irving, Texas-based company’s worldwide gas output during the quarter. Natural gas was 41 percent of its combined crude and gas production during the January-to-March period, the filing showed.

BP Production

London-based BP produced 8.767 billion cubic feet of gas a day during the first three months of the year, or 36 percent of its total hydrocarbon output, a public filing showed. U.S. wells accounted for 27 percent of the company’s global gas production. BP is the largest producer of gas from American wells, according to the Washington-based Natural Gas Supply Association.

Companies put natural gas into underground storage from April through October to have enough on hand to meet peak demand during the winter. Stockpiles have been above average levels since last August as factory shutdowns caused demand to plummet.

Winter heating demand may help reverse the price decline. Joe Bastardi, chief meteorologist at AccuWeather.com, expects the snowiest winter in more than five years along the eastern seaboard and northern plains, according to a July 15 report. Gas demand in the U.S. typically peaks in January and February.

Worst Performer

Natural gas has been the worst performer in the S&P GSCI Commodity Index this year. As it fell, copper jumped 72 percent, gold appreciated 6 percent and gasoline advanced 70 percent.

The risk is a reversal in the trend by the end of 2009 as the recession eases and industrial demand returns, according to estimates by analysts and investors compiled by Bloomberg.

Falling prices have forced drillers to cut back on exploration. U.S. gas production will fall 0.6 percent this year, according to the U.S. Energy Department estimates. Gas rigs operating in the U.S. last week fell to 672, the lowest since May 2002, according to data published by Baker Hughes Inc.

“If we continue this slowdown or cessation of drilling activity, there will be, at some point, not enough gas to go around,” said Dewey Bartlett Jr., chairman of the National Stripper Well Association, a nonprofit trade group of small energy producers. Bartlett is president and owner of Keener Oil Co. in Tulsa, Oklahoma.

Average Price

Natural gas will probably average $4.97 per million Btu this quarter, based on an average of eight analyst estimates collected by Bloomberg since May. Prices will then increase to an average $5.78 in the fourth quarter, according to the estimates.

“It’s more about declining wellhead production than anything else,” said Roger Read, an analyst at Natixis Bleichroeder Inc. in Houston, who expects gas to average $3.50 per million Btu in the third quarter and $5.50 in the fourth.

Figures from the Federal Reserve this week showed the smallest contraction in industrial production in more than a year, a sign the worst may be past for manufacturers. The New York Fed’s Empire Index rose to minus 0.6 in July from minus 9.4 a month earlier.

Industrial Production

“There are signals that industrial production in the U.S. is bottoming out in terms of year-on-year contraction, and that’s a positive sign,” said James Crandell, a commodities research analyst at Barclays Capital in New York. Crandell said gas will average $3.80 in the third quarter and $4 in the final three months. The Nymex futures markets are trading at $3.72 in the third quarter and $4.65 in the fourth, according to data compiled by Bloomberg.

The American Iron and Steel Institute’s steel production index has risen 18 percent since the end of December, when output dropped to the lowest since at least 1980. U.S. mills last week were operating above 50 percent of capacity for the first time since Dec. 1.

“The increased use from steel manufacturing in the U.S. since the beginning of July could be a green shoot that would actually turn into really good news,” said Laurent Key, a New York-based economist for Societe Generale SA who expects gas to drop to between $2.90 and $3 by October and average $3.33 in the fourth quarter. “It’s too early to talk about a recovery.”

Key said the U.S. may have the highest inventory levels of the year in October, causing prices to bottom out below $3.

Low Prices

Prices are “really, really low” because the industry has been successful in exploring for natural gas, said Bartlett of the stripper well association.

“It’s going to be a while” before the glut ends, Bartlett said. “There’s such a huge volume of gas in storage, and it’s not getting out at a decent rate.”

U.S. potential natural gas resources rose 39 percent from two years ago to 1,836 trillion cubic feet, the highest level on record, according to an industry report issued last month.

Most of the increase in potential natural gas reserves came from a reassessment of shale gas in the Appalachian basin and in the mid-continent, Gulf Coast and Rocky Mountain areas, according to a report by the Potential Gas Committee, a group of industry, government and academic volunteers.

Decades of Gas

Shale gas is locked in non-porous rock that made the reserves inaccessible until producers perfected new drilling techniques in the 1990s.

When the potential is combined with the Energy Department’s latest determination of proved gas reserves, at 238 trillion cubic feet as of year-end 2007, the U.S. has a total available future supply of 2,074 trillion cubic feet. The U.S. consumes about 23 trillion cubic feet of natural gas a year, including 6.6 trillion for electricity.

“Gas prices got to a point where it was economical to produce from shale, and everyone started up,” said Hiley of Newedge USA. “Now it’s on the market, and it’s hurting.

“I would not be surprised to see a $2 handle,” Hiley said.

To contact the reporter on this story: Margot Habiby in Dallas at mhabiby@bloomberg.net.