If we measure the importance of a commodity by column inches in newspapers and magazines or the thousands of words spoken on financial talk shows then crude oil is the hands-down winner.  There are plenty of reasons for that interest – oil makes our world go round. True.  Not many vehicles run on non-oil fuels.  Oil is pivotal in geopolitical discussions.  The daily oil price movements carry the same fascination as the Dow Jones Index, and with about the same explanatory value.  However, the most important consideration is that Americans owned 252.7 million light-duty cars and trucks in 2014, according to consultant IHS, and even more vehicles today.  Every week drivers need to fill up their gasoline tanks so they know and understand both the level and movement of fuel prices.  Some people often equate gasoline price changes with smiley faces.

While oil is drawing most of the media attention, the natural gas market has begun showing signs of life and possibly signaling it may be on the cusp of shifting from hugely over-supplied to more balanced, which means prices could be heading higher soon.  For those active in the natural gas market, they have embraced the late comedian and actor Rodney Dangerfield’s famous expression, “I don’t get no respect.”  They may also identify with the lyrics to the song “I’ve been down so long, it looks like up,” especially as they contemplate the latest Texas natural gas production data. 

Exhibit 6.  Does Natural Gas Market Follow Bible’s Path?
 
Source:  EIA, PPHB

When we look at a long-term chart of daily natural gas futures prices, we wonder whether this industry has been driven by the Biblical phrase from the Book of Genesis describing Egypt’s seven years of famine that would be followed by seven years of feast.  Note that the last peak in natural gas prices was experienced in 2008, roughly seven years ago, and also roughly seven years after the prior low price point in the early years of this century.  

Last year, the greatest concern for the gas industry and energy investors was would there be enough gas injected into storage to assure gas users and buyers that adequate supply would be available during the depths of the next winter.  As last year’s winter was worse than the prior year’s, which depleted gas storage inventory and caused prices to jump, the fact that natural gas producers were able to build storage to nearly 78% more than where they started the prior year’s injection season, gave confidence to consumers.  While we started this year’s gas storage injection season at a much higher level than 2014’s season, we have averaged the highest weekly injection rate for any season since 1994, some 21 years.  This sharp growth in gas storage volumes has stimulated discussion among industry forecasters as to whether this winter’s withdrawal season will start with over four trillion cubic feet (Tcf) in storage.  Some forecasters believe storage volumes will be comfortably above that threshold while others believe the disparate supply sources and logistics challenges will prevent the industry from being able to store more than four Tcf of gas.  

As we did last year, we have examined the current pace of the build in natural gas inventories and sought a comparable year to track how the actual storage supply growth tracks against our projection.  So far, natural gas storage injections have been robust and are leading to the debate over that four Tcf threshold.  Every week when the Energy Information Administration (EIA) publishes its estimate of 

Exhibit 7.  Injections Suggest Huge Supply By Season-end 
 
Source:  EIA

the amount of gas injected into storage for the prior week, it offers a chart showing where the current gas inventory level is relative to the five-year high and low for weekly storage volumes.  As shown in Exhibit 7 (prior page), current storage volumes are comfortably about at the mid-point of the five-year weekly supply inventory.  

So far this season, weekly storage injections have largely exceeded the estimates of analysts.  That signifies that natural gas consumption has fallen short of the demand component in analyst forecast models.  If there has been a shortfall, it becomes interesting attempting to assess whether the shortfall is due to cooler temperatures reducing electricity demand for air conditioning or warmer temperatures that eliminate gas used for heating.  Gas demand can also fall short of expectations due to reduced industrial use, something tied closely to economic activity, which presumably was lower than expected.  For the first one-third of this injection season, the natural gas industry is averaging 88 billion cubic feet (Bcf) per week being injected into storage, a greater volume than was averaged during the early portion of last year’s injection season.

Exhibit 8.  Weekly Gas Injections Better Than Estimates
 
Source:  EIA, PPHB

In order to determine which injection season(s) to use for projecting season-ending storage volumes, we began by looking for those years when initial volumes were relatively close to this year’s starting volume.  We found eight such years, all of them since 1999.  We then examined the latest weekly storage level (week ending June 12, 2015, or the 11th week of the natural gas injection season).  So far this year, the industry has injected 972 Bcf into storage, a volume that is unmatched at this point by any of the past 21 years of injection data.  We found two years when the industry was able to inject more than 900 Bcf into storage – 2009 with 903 Bcf and 2010 with 905 Bcf.  To develop another projection, we decided to use the 2015 weekly average injection volume.  The three forecasts are presented in Exhibit 9 (next page).

Exhibit 9.  Our Supply Forecast Says 4 Tcf May Be Possible
 
Source:  EIA, PPHB

What this analytical exercise shows is that if from June 12th forward, the 2015 injection season follows the weekly injection patterns of 2009 and 2010, we will end up with 3,664 Bcf, 3,711 Bcf, or 4,193 Bcf of natural gas in storage at the start of the withdrawal season.  As pointed out earlier, both the 2009 and 2010 injection seasons saw almost the exact same volume injected into storage, so where our forecasts wind up and the volume of gas injected over the season are nearly identical.  The forecast based on a continuation of 88 Bcf weekly injections leads to nearly 4,200 Bcf of gas in storage at the end of the season, after injecting slightly over 2,700 Bcf of gas during the season.  

Historically, natural gas supply was tied to output from a handful of states – principally Texas with important contributions from Oklahoma and Louisiana.  Other meaningful sources of gas supply included Wyoming, New Mexico and the Gulf of Mexico.  In January 2005, when the EIA began reporting the monthly gas output data collected on Form 914, Texas represented 150% of the natural gas volumes reported by all other gas producing states other than those named above.  Included in the Other States category were Pennsylvania, Ohio and West Virginia, to name several states whose fortunes have been significantly changed with the industry’s success in exploiting their Marcellus and Utica shale formations.  The latest monthly data available (March 2015) shows that Other States’ output has almost flipped and is now 137% of Texas’s gas production.  Still, Texas’ output is significant for the nation’s gas supply, so what happens in Texas remains important.

Exhibit 10.  Texas Natural Gas Output Significant For US Supply
 
Source:  EIA, PPHB

The Texas Railroad Commission recently reported preliminary production data through April.  As usual, the preliminary data is incomplete and will be revised in later monthly releases.  The impact of those revisions is that the initial production lines will rise.  That trend is reflected in the following charts that cover a series of monthly releases since November 2014.  What the following series of charts demonstrate is how significantly Texas’ natural gas production has fallen in recent months, and even with upward revisions of the data, the growth in gas supply may be about to reverse, which will send gas prices higher.  

Exhibit 11.  Has Texas Natural Gas Production Peaked?
 
Source:  Dean Fantazzini, OilPrice.com

As we look at the state data, the original November 2014 natural gas output was estimated at slightly above 20 Bcf per day.  By the latest release for April 2015’s data, the November 2014 output had increased to an estimate of 22.25 Bcf per day.  When compared to the EIA’s Form 914’s latest report of Texas gross gas production through March 2015, it shows November 2014’s output at 24.04 Bcf per day, some 1.8 Bcf per day, or 8% greater, than the most recent Texas production estimate.  

Exhibit 12.  EIA Is More Optimistic About Texas Gas Output
 
Source:  EIA, PPHB

The EIA estimate for Texas natural gas production shows that output fell in March 2015 from the prior three months.  The EIA reports that Texas gas output peaked in December at 24.60 Bcf per day and then fell in subsequent months to 24.31 Bcf, 24.33 Bcf and 23.91 Bcf per day, respectively.  Is it possible that Texas will continue to be revised higher and eventually reach the EIA’s estimates, or will the EIA be forced to revise its output estimates lower?  The most recent data from the EIA’s Monthly Energy Report shows that U.S. dry natural gas production peaked in December.  

Exhibit 13.  U.S. Dry Nat Gas Production Peaked In December
 
Source:  EIA, Art Berman

What is interesting when examining the Texas Railroad Commission data is to see that the decline in the state’s gas production has come largely from conventional wells, especially as producing wells grow older.  The data also shows the significance of associated gas output from oil wells, a phenomenon of the shale revolution, especially in the Eagle Ford formation.  

Exhibit 14.  Texas Conventional Gas Output In Decline
 
Source:  Dean Fantazzini, OilPrice.com

The April production data shows that conventional gas well output peaked in the summer of 2008.  It declined most likely in response to sharp capital spending cutbacks associated with the financial crisis and recession, but then slowly rebuilt output until it peaked in the fall of 2011.  Since then, conventional gas output has steadily declined with brief rebounds before resuming the long-term decline.  

Exhibit 15.  Associate Gas Support For Total Output Weakening
 
Source:  Dean Fantazzini, OilPrice.com

On the other hand, associated natural gas produced from oil wells has continued to grow since 2007 until it briefly peaked in the summer of 2013, but then continued growing until the most recent peak in April 2014.  With the reduction in oil well drilling in the state due to the decline in oil prices, it is likely that associated gas output will continue to fall in the future.  

If Texas’ natural gas output is actually falling, it is hard to imagine that every other state’s output is rising.  That suggests that United States national gas output will soon begin declining, which will be reflected in higher natural gas prices.  The higher price will be necessary to stimulate greater drilling for natural gas, something that hasn’t happened for many years, especially since the success of gas shale drilling produced huge new supplies that overwhelmed the gas market and drove prices from double-digit levels down to the $2-3 per thousand cubic feet price range.  If the Bible is a good forecaster, then stay tuned for a significantly different natural gas market than many currently anticipate.

G. Allen Brooks works as the Managing Director at PPHB LP. Reprinted with permission of PPHB.