Commodities decouple in new market
Historically joined at the hip, oil and gas prices are fluctuating on their own
[Crude is just a game being driven by speculative money and the reflation players. It's not moving with demand. Near-term, oversupply of NG makes it a seasonal play at best, and a warmer El Niño winter is possible]
For years, when the price of crude oil rose, so did natural gas. Likewise, when oil fell, gas did, too. But more recently, the close connection between the two hydrocarbon cousins has slowly been severed. Last week, prices for oil and natural gas diverged more wildly than ever, as oil continued its climb, closing at almost a 2009 peak, and gas fell to a seven-year low. A relationship once taken for granted no longer exists - and it's unlikely to re-emerge. The major factor that held oil and gas together, the ability of some power generators to switch from one to the other, no longer holds the sway it did in the past. Historically, the two commodities have tended to trade around a ratio of 10-1. Now, the price of oil is 26 times higher than that of gas.
On Friday, after Federal Reserve Board Chairman Ben Bernanke forecast economic recovery, oil reached its highest point of the year, near $75 (U.S.) a barrel, and closed at $73.89, - one of its highest finishes this year on the New York Mercantile Exchange. Gas, which in theory would also benefit from a stronger economy, remains drowned in more-than-ample supply, and closed at $2.80 per thousand cubic feet, down 4.8 per cent.
One reason for the disconnect between oil and gas: substitution, or rather, a lack thereof. A decade ago, especially in some older power-generation facilities, operators could switch from oil to gas and back again, going with whichever was cheaper. Today, the capacity for oil-gas substitution in North America is down by two-thirds, according to commodities analyst Martin King at FirstEnergy Capital Corp.
Another equally important factor is that the oil market is global, with giant tankers roaming the seas, effectively dampening price differentials between continents. But gas is mostly stuck in place, continent to continent. The seaborne liquefied gas market is still in the early stages of development, compared with oil, especially consideringNorth America doesn't have any significant export capacity.
With a flush of new gas supply from prolific shale plays, there's no valve to send it elsewhere. Even as economic recovery emerges, the flood of gas keeps the price depressed. There are import terminals - the chief concern until last year was lack of supply - but those are only useful to bring gas in if prices are high.
The prices of oil and gas could come closer to 10-1 again, although the commodities are no longer connected. Should oil fall to $60, as some analysts predict it will because of weak demand, and gas rise to $5, as suggested by the futures market, the old ratio would once more seem in play, even if only by coincidence.
Another ratio, which mattered back in the substitution days, is energy equivalency. One barrel of oil generates the same amount of energy as 6,000 cubic feet of gas. This means the energy in a barrel of oil is more than four times the cost of gas right now.
Companies in the energy industry that have a mix of oil and gas in their pocket have moved aggressively.
Canadian Natural Resources Ltd., the country's No. 2 producer, plans to drill 238 oil wells in North America between July and September. That's almost 10 times the 24 gas wells the company aims to drill. The only new gas wells being drilled, in fact, are to keep exploration leases from expiring, mapping out new plays and fighting off competitors on the same pool of gas. Galleon Energy Inc., a medium-sized explorer that's roughly half oil and half gas, employs the same strategy. In April to June, Galleon mostly drilled gas wells. For the rest of the year, more than half of the 22 planned wells will be oil.
"We can go to oil or gas depending on the commodity price," said Steve Sugianto, Galleon CEO.
Analysts say gas prices could go even lower by the end of the summer but are expected to rebound as the gas market typically "resets" for winter. Gas produced in spring and summer is put into underground storage caverns and then sold when heavy demands for gas-fuelled electricity to heat homes emerges. Summer gas can be expensive if it's hot and air conditioners are blasting while storage demands for winter are strong as well. Most analysts don't see oil rising further, though they concede it could, similar to last year's speculator-driven march to nearly $150 a barrel. But analysts generally see a continued lack of demand for oil products, specifically gasoline, undermining any real gains. Some analysts, like Mr. King in Calgary, see oil hovering around where it is for the rest of the year. Others, such as Phil Flynn at Alaron Trading Corp. in Chicago., forecast a decline towards $50 - possibly lower.
"The demand numbers are horrible," Mr. Flynn said. "The market is acting like the economy will be better next week and we'll be out of oil. No: It won't be that quick. It'll be a lot longer than people think."
What most people don't know is demand for oil in the voracious U.S. actually peaked four years ago, according to the U.S. Energy Information Agency, and has fallen 15 per cent from that peak in 2005, when oil first surged through $60 a barrel. Much of the decline can be attributed to crumbling demand for fuel oil, used in shipping and electricity generation in some regions. Gasoline has been more resilient but did peak in 2007, when oil was rising towards $80. It's down about 6 per cent since then.
Some major oil producers, such as BP PLC, believe demand for gasoline in North America may never recover to levels seen before the spike past $100 and now the recession. BP cancelled plans for an $8-billion refinery in New Brunswick last month based on this conclusion.
theglobeandmail.com
Jim |
