For the past several years natural gas market participants have noted that seemingly every independent producer consistently trumpeted its robust growth. The market was oversupplied for several year prior to last year’s winter going MIA.
The lag effect of the natural gas boom and also associated gas production has kept production high. For several years investors scratched their heads over E&P’s continuing to spend and drill beyond cashflow.
Guess what? The worm could be about to turn in a big way. One time growth machines hate natural gas and love oil and liquids. On Q3 conference calls many management teams talked openly about declines in their natural gas production.
ECA’s conservative Randy Eresman:
Note his attitude: “…we believe that the price ratio between oil and natural gas will be maintained at a level which far exceeds the historical average. Therefore, we believe that there will continue to be a strong driver to increase liquids in our portfolio even as natural gas prices rise.”
Absent a long lead time project, ECA’s production would almost crash next year: “Our decline would have been — we would have been dropping off about 10% of production that’s being offset by the Deep Panuke project coming on.”
Consider the coal displacement, which Independent Stock Analysis readers know most of which is permanently closed: “On the demand side, we see an increased use of natural gas as it continues to displace coal-fired power generation. Relative to 2008 levels, we estimate that approximately 8 billion cubic feet per day year-to-date of natural gas demand has been gained from coal to gas displacement. This has contributed significantly to reduce storage inventories surplus, relative to the 5-year average, from about 927 billion cubic feet at the end of the winter to about 250 billion cubic feet today.”
CHK’s flamboyant Aubrey McClendon:
“Turning to natural gas markets, much to the amazement of most observers, the market has overcome an almost 900 bcf storage surplus from just seven months ago to a year-over-year storage surplus today of just about 120 bcf. We believe the small remaining storage overhang should soon go into a year-over-year deficit…”
“And coal to gas switching in the electrical generation market is proving stickier at higher gas prices than many assumed it would.”
“And we simply view that today’s strip for 2013 and frankly, for years beyond that, does not reflect a full appreciation of what happens when big producers like us reverse course and go in to managed decline. And as Nick said in his remarks, we’ll be down 7% year-over-year. That will be the first year in 23 years that our company had experienced a gas production decline, Chesapeake has been responsible for about 30% of all the gas production growth the whole industry has generated in the past five years.
CHK’s Nick Dell’Osso:
“And so, when we roll over, we think we will pull the whole market with us and we think that the prices that we see out in 2013 do not reflect that. In fact, I saw one Wall Street piece even this morning that projected the Haynesville will be flat to up in 2013 gas production. It’s simply impossible. Our production is already down 25% from a peak. Our Barnett production is already off at 11% from its peak. Steve mentioned that our Haynesville production will be declining by 9% quarter-over-quarter, third quarter to fourth quarter.”
Must ado in the industry is paid the Marcellus and its mitigating influence on the industry. Nick: “…we’re the biggest producer in the Marcellus and we just don’t see the Marcellus being able to overcome the declines that are going to happen in the Haynesville and in the Barnett along with all the other conventional gas that today, of course, still represents about more than 50% of all the gas production in the U.S.”
UPL’s Mike Watford:
“For those who question the natural gas rig count reduction, from 900 rigs to 400 rigs, without any associated production impacts, we can look at ourselves to see the lag. We exited 2011 with monthly production of about 22 Bcfe. With a 50% cut in capital for 2012, first quarter production grew to 23 Bcfe a month, second quarter, 22 Bcfe a month and third quarter, 21 Bcfe a month. Production lags CapEx on the downside, as well as on the upside.
So industry-wide, you are just beginning to see natural gas production rollover. Once it begins, it will accelerate, then I think we are looking at a 2-year window of monthly reductions in domestic natural gas supply.
So it’s taken us, and the industry some time, to react to the market signals, but we have and we won’t be quick to over invest in the coming years. And we’ve seen natural gas prices respond positively, but they are a long, long way away from levels that will attract capital.”
In short, the ISA gas over oil thesis continues to look good.