Natural Gas Is in a Tailspin and There’s Almost Nowhere to Hide
By Avi Salzman Feb. 7, 2020 6:45 pm ET barrons.com
People who follow the natural-gas industry say no end is in sight for the pain.
The U.S. uses 50% more natural gas than it did 10 years ago, a boom that would be considered a miracle in most industries. Growth in demand—helped by power plants abandoning coal—has continued in recent months, but the price of the commodity is plunging.
That is trouble for companies that produce gas. Their stocks are dropping. Six companies that produce gas in Appalachia were recently downgraded by S&P Global Ratings, and others were given negative outlooks.
Analysts and investors say there isn’t an end to the pain in sight. In interviews with a half-dozen people who follow the industry, none could think of a catalyst that would cause prices to rise until next winter at the earliest.
Natural gas fell below $2 per million British thermal units on Jan. 21, and have stayed there in February, closing at $1.86 on Friday. On Feb. 3, the price dropped to $1.82, its lowest level since March 2016.
One reason for the weakness is that the weather in the U.S. has been warmer than expected this winter, leading to a drop in demand for natural gas for heating. But there’s a longer-term problem that won’t be solved even if temperatures plunge.
America’s fracking boom has caused an oversupply of gas that still hasn’t been absorbed by all the new demand. Between December 2018 and December 2019, production grew by about 5 billion cubic feet per day, according to Bernadette Johnson, vice president of Enverus’ Strategic Advisory Group. “The price dropping this low this early in the year is pretty odd,” she said.
S&P cut its credit ratings on the gas producers on Wednesday, citing worries that gas prices are unlikely to rebound for years and that investors won’t lend money to the industry. The companies are EQT (ticker: EQT), Range Resources (RRC), Antero Resources (AR), privately held Ascent Resources Utica Holdings, CNX Resources (CNX), and Gulfport Energy (GPOR). None of the companies responded to requests for comment.
The analysts see natural-gas prices at low levels for an extended period. In December, S&P lowered its price outlook for gas sold at Henry Hub, a Louisiana pipeline, to $2.25 in 2020, $2.50 in 2021 and $2.75 for 2022 and beyond. The decline has also hurt larger companies like Chevron (CVX), which was forced to write-down assets due to the gas slump.
Some analysts had hoped America’s growing exports of liquefied natural gas would prop up prices. But that thesis hasn’t played out. LNG prices hit $3 per million British thermal units on Thursday, a record low for the superchilled, highly compressed product, according to S&P Global Platts.
Chinese energy company CNOOC (CEO) reportedly declared force majeure on LNG contracts this week, meaning it announced it will no longer honor commitments to buy and pay for LNG, due to forces beyond its control. CNOOC blamed the coronavirus, according to Bloomberg. The company didn’t respond to a request for comment.
Longer-term problems in the LNG market could affect prices for months. Current prices “reflect 9 months of weaker macroeconomic signals,” wrote Ira Joseph, head of Power & Gas Analytics at S&P Global Platts, on Thursday. “The coronavirus is just a symptom; lack of gas demand at almost any price is the pièce de résistance of this market.”
LNG also has a structural problem that could cause more disruption. Companies have signed long-term contracts to import it at prices well above current spot prices. Joseph calls the market structure “fundamentally flawed,” adding “these contract prices are 2 to 3 times higher and causing major market distortions.”
Given growing demand for natural gas, this might seem like a good time to buy the stocks, but analysts expressed concern that any rebound could be a long way off. Natural-gas prices may get much worse before they get better.
“There’s clearly a lot more downside risk at this point, more than people anticipate,” Andy Weissman, CEO of EBW Analytics Group, which follows the energy market, said in January. “There’s a major [technical] support level just above $1.61. I think there is a substantial risk that we’ll see $1.61 tested sometime over the next 10 to 12 weeks. It will depend in substantial part on the weather. It is even possible in my mind that either this spring or this coming fall that the supported level, will not hold, in which case you could see prices go to levels that we really haven’t seen at least in the last 20 years or so.”
Gas-storage levels are about 40% higher than usual in what is “normally peak demand season,” said Cowen analyst David Deckelbaum in an interview last month.
Deckelbaum doesn’t see much value among natural gas producers, even though some stocks are down more than 50% in the past 12 months. “Until you arrest those problems, particularly around the supply side, I think it’s difficult to put a bid in for the equities,” he said. “The best way to position is to be with names that can win in a war of attrition.” One company he does like is Cabot Oil & Gas (COG), a Houston-based company whose stock is down 15% this year.
“Even down to $2 Henry Hub gas they can be free cash generative, they still pay a dividend,” Deckelbaum said. “They probably have the most unlevered balance sheet within natural gas equities, lowest cost structure, lowest breakevens. They can outlast anybody in the space right now.”
Bernadette Johnson of Enverus also thinks Cabot is in “a relatively better position, just because they do have some agreements up in the Northeast where they sell their gas to local demand. So they’re not really as at risk as some others. Their cash flow situation is better. So a Cabot looks pretty good to me. For a lot of the other guys, it’s probably going to be a tough year.”
So where do producers/developers/drillers go from here? Stop drilling... reduce output from productive wells. How about pipeline companies spending millions to increase capacity to transport more product? How will this affect them? it's all very unsettling. But thanks for posting anyway. It's always nice to face reality from time to time.
I don't think there are any or many "one size fits all" solutions. The bottom line of course is less supply to bolster prices. For most companies a decent profit that avoids bankruptcy can be had between $2.60 and $2.80/mcf. So supply doesn't have to go off a cliff. That is for producers heavily weighted to dry gas. One of the reasons that I have started posting the weekly Haynesville rig report is to follow a decline in directed rigs and to note which companies are drilling and which are not. There are basically two categories of operating companies, the majors (or in our case, super-majors XTO (XOM) and BP America) and the mid-major and smaller independent (not publicly traded) companies. I'll post a cut-and-paste of the most recent rig report below for reference.
The only super-major on the LA side of the play is BP and the company is not drilling. No alternate unit well applications and no permits to drill. The rest are all mid-majors, Chesapeake and Comtock (Covey Park) now that Jerry is involved. And other than Goodrich, which is publicly traded, the rest are independents funded by private equity. Chesapeake is so over leveraged the company can't stop drilling although they have greatly slowed their Haynesville production in favor of more oily basins and will only stay afloat by asset sales. I hope to see their sale to Comstock completed in the first half of the year. The private equity funded companies have cash flow commitments which makes it hard to institute any drastic slowing in their drilling schedules.
On the TX side, XTO has already shut down its drilling program and BP America is only drilling in Nacogdoches County. The only publicly traded, mid-major is Comstock, with one rig. The rest are smaller independents that have to chase cash flow.
The other supply problem is associated gas from oily basins and unless crude goes below $50/barrel, I don't think there will be any price support. The status quo will prevail.
LOUISIANA (25 - decrease of 2)
Bienville: Aethon (3)
Bossier: Comstock (2), Aethon (1), Covey Park (1)
Caddo: Aethon (1), Trinity (1)
DeSoto: Aethon (1), Comstock (1), Vine (2), Chesapeake (1), Goodrich (1), Indigo (2)
Natchitoches: Indigo (2)
Red River: Aethon (1)
Sabine: GEP Haynesville (2), Vine (1), Indigo (1)
Webster: Comstock (1)
TEXAS (13 - decrease of 1)
Harrison: Rockcliff (1), Tanos (1), Sabine (1), Comstock (1)
Nacogdoches: BP America (3)
Panola: Rockcliff (3) R Lacy (1)
San Augustine: Aethon (2)
Nice assessment. Do you really think Comstock will buy Chesapeake... with all of the legal burdens still to be resolved. Does Comstock have that kind of money and survive such low natural gas prices? I suppose that's why I'm not in big business. I wouldn't be able to sleep at night just worrying about all the financial and legal burdens. But I wish all of them the best.
Comstock and Chesapeake seemed to have an agreement in principle for the LA Haynesville acreage late last year but then CHK got a chance to refinance a tranche of debt and bumped the sale into 2020. No word yet as to a closing date but there is only one active suit involving CHK of which I am aware. Don't know if that will have to be settled prior to a sale or whether CHK can indemnify CRK should things go bad in court. At this point, CHK is not the problem as their Haynesville drilling has slowed to a crawl.
Obviously, Aethon if the independent that is keeping the rig numbers up. Their drilling schedule has been aggressive for a couple of years now and may be related to the Haynesville acquisitions they made previously. BP might be able to drop one or more rigs and still meet their drilling and take away commitments but that's a guess. I expect Indigo to drop one or two rigs once they have HBP'ed the new leasehold they took in far NW Natchitoches Parish. I'd like to see the total rig count in the low thirties as you can't expect much beyond that considering the number of active operators. So we need to lose 6 to 8 rigs.
Then there is the associated gas problem which gets better or worse based on the price of a barrel of crude. The Texas Railroad Commission is discussing limits on flaring which would decrease associated gas supply if implemented. That's a big if but the debate seems to have gotten serious. Ultimately the answer for domestic natural gas over supply is consolidation. The super majors, majors and mid-majors (those without a debt problem) need to acquire much of the assets operated by the independents. Those larger and more financially capable companies can afford to decrease production in exchange for a higher price per mcf. They can also better handle programs to limit fugitive emissions and mollify middle of the road voters who have real concerns about the potential impacts of a warming climate. The industry has a price problem and a public perception problem.
Yeah - I can't find any valid reason to believe pure-play drillers of dry gas have plans for a company-picnic for a long time. Oil drillers almost always find a way to pour enough natural gas into the picture to retard the price & activity. One hope might be that, because of ridiculous receipts... that offshore drilling will slow down to help... but I believe most of those large companies sign long-term contracts that they can't get out of > just because the price is 'temporarily low'. I don't see any way there can be a substantial improvement unless (1) the government steps in with tax credits, subsidies, etc... or - (2) producers simply flow wells on smaller chokes, drying up surplus. One lingering memory: what ever happened to CNG vehicles? Everyone is focused on electric vehicles, but CNG is a proven, simple conversion to switch-over, making fuel super-cheap & super-clean in the short-run... and... taking market from OIL production, which would help with the associated-gas problem. What about govt. subsidies to switch-over? Does this make sense? - THANKS !
CNG as a fuel for light duty vehicles is a non-starter. Too much cost to build out a national fueling network and too much space requirement in relatively small trunk spaces for fuel cylinders. CNG has found a niche and a significant if limited one. Here in Shreveport the city buses are CNG fueled. I suspect that the garbage trucks and other city vehicles will follow. Many of the UPS local delivery trucks are CNG fueled. Commercial vehicles that run a route and return to a common facility each day are excellent candidates for CNG. Light duty private vehicles will be electric.
The oil and gas industry is already the most heavily subsidized of all major industries by federal tax regulations, not to mention state level incentives and tax breaks. If companies can not be profitable with that rather obscene level of support, do they deserve to be in business? Probably not.
Nymex March gas closed -5% at $1.766/MMBtu, the lowest settlement since March 2016 and capping a 19% YTD drop.
"With the little remainder of winter waning away, the possibility of a late-season return to colder temperatures to prop up heating demand becomes bleak," says Schneider Electric analyst Christin Redmond, noting the National Oceanic and Atmospheric Administration forecasts a high probability of warmer than normal temps across the eastern and midwestern U.S. during the coming 8-14 days.
U.S. production, which has been slowly rising though not quite at last year's rate, also is contributing to price weakness, says IHS Markit's Marshall Steeves, who adds that output has increased not just from shale but also from offshore Gulf of Mexico.
U.S. natural gas prices likely will not top $2.50/MMBtu in 2020, according to a Raymond James annual survey of E&P executives.
Where does Indigo fall in regard to their financial position moving forward with these low prices?
I have not heard anything on Indigo from a debt perspective. I suspect that the company is not highly leveraged. Indigo is associated with the Martin Family and much of the companies E&P activities are on the Roy O. Martin timber lands. Indigo chose to focus on the horizontal Cotton Valley play and never paid the ludicrous lease prices that put so many other Haynesville operators in debt. Indigo has investors primarily the York Companies as opposed to a large debt load. The Haynesville acquisitions that they have made over the years were bargains acquired from over leveraged operators like Chesapeake. I suspect that Indigo is in much better shape than many/most of their competitors.
There was a Bloomberg article several days past that predicted China's corona virus outbreak will reduce China's demand for fossil fuel over several quarters. The reason is that the governm=ent has closed many schools and factories to reduce the spread of the infection. Plus quarantine and lockdown of several major cities has greatly reduced transportation.
All of there measures are expected to reduce China's demand for imported LNG.
The real and perceived impacts of the virus are having an effect. However LNG prices in Asia are currently equal to ~$3/mcf. The generally stated cost to liquefy and ship an mcf of US natural gas is currently ~$2/mcf. Even at today's low price that would be ~$3.76/mcf all in cost. The corona virus is a short term price blip. When the new export capacities come on line in Qatar and Australia this year, even pandemics will have little impacat on price. Even improved global economic health can not help the over supply problem. US investors are in the process of pulling back from domestic LNG export investments.
Waha prices for April and later are all negative more than $1.00. https://www.cmegroup.com/trading/energy/natural-gas/waha-texas-natu.... Next day was about +$0.40 today.