Natural Gas – It Isn’t Over - Transcript

Welcome to RBC’s Markets in Motion podcast recorded July 11th, 2022. I’m Chris Louney, Vice President on the Global Commodity Strategy and MENA research team here at RBC Capital Markets, guest hosting today and filling in for your regular host Lori Calvasina. Before getting started, I’ll remind our audience to please listen through to the end of this podcast for important disclaimers.

In today’s podcast I’ll be speaking on natural gas. Natural gas prices generally are attracting far more attention amid headlines of energy prices broadly, inflation worries and economic concerns, and even energy crises that have in many ways held outsized interest in the market. While global gas prices remain on another level, US gas prices also reached very high levels earlier this year, and even after some recent developments, they still remain quite elevated.There are three things I’ll touch on today.

First, geopolitical premiums are now present in US natural gas markets in a way they were not before. We draw on both an analysis we did earlier this summer as well as some learnings after an explosion that shut down a major US facility early last month. This leads us to our second point.

Second, Our view for the remainder of this year, we think gas prices should average north of $6/MMBtu in the US, a view that previously was our high scenario, and now looks like the more probably one for the remainder of the year.

Third, in all of our scenarios US gas prices fall next year, and while we are by no means returning to the lower-for-longer price environment many had gotten used to, we do expect lower gas prices in 2023, albeit with the caveat that geopolitics are here to stay for natural gas.

First up, let’s talk a bit about geopolitical premiums and the role they have played in natural gas markets year to date. Generally there have been a lot of tensions this year which are playing a role in elevated prices. There has been a very tense global macro backdrop which is likely no surprise to anyone listening, and of course acute geopolitics. Russia’s war in Ukraine and the weaponization of its gas exports are key themes in global gas markets, on top of, tight fundamentals and a market itself that seemingly wants to be bullish.

Importantly, US LNG exports now play a larger role in the US gas market than in years past, and this is true at the same time as global gas balances are very tight, and Russian gas flows to the EU (which they have historically relied on) have fallen. This has all upped the importance of US exports.

In that context, over the course of this year we have noticed a much higher price sensitivity to storage, which is in essence the balance of fundamentals for gas markets. Previously we warned that this elevated sensitivity would be difficult to sustain. Our analysis implied that any price over $6.35/MMBtu included some arguably less justifiable or more difficult to sustain premiums, including geopolitical premiums. This was particularly notable in early June when gas prices were north of $9/mmbtu.

However, last month there was an explosion at Freeport LNG export facility which took the facility offline and essentially wiped out 2 Bcf.d of US gas demand – and there remain questions about when this year there will be a partially or full restart. With the resulting decrease in demand, prices fell as you can imagine. However, today, with prices still in the $6s per MMBtu there are some clear lessons and it seems that prices will remain somewhat elevated on average regardless.

While on balance, the Freeport LNG shut-in loosens the US natural gas balance incrementally (and is responsible for the fall of gas prices from around $9/MMBtu to the $6s), the higher price sensitivity seems set to linger this year longer than we thought. In fact, that natural gas price level, north of $6/MMBtu looks likely for the remainder of the year. We think this is the case as a hotter than normal summer looks probable, we have already seen already strong domestic demand to date, and production has yet to grow materially year to date. Thus, natural gas prices are likely to remain elevated for the remainder of this year.

Next year however, across our scenarios we do think lower prices will prevail as US production growth comes online later this year and into next year while there is less structural growth in domestic demand and exports year on year.

But what about the long term? Geopolitics are here to stay for natural gas. While the growth of US gas exports and the growth of LNG trade globally meant that the introduction of geopolitics to the US and other gas markets was unavoidable, now with the pivot by the EU away from Russian gas, the US’s swing producer position means that both Europe and Asia are likely key markets for US (and other) gas volumes on a long-term basis and thus tells us that geopolitics matter.

In summary, for the balance of this year we do think that US natural gas prices will remain in the recent elevated range. It is clear to us that even after the shut in of a major LNG export facility, the high sensitivity is here to stay, and fundamentally, the remainder of this year is still tight. Over the longer term prices may fall, but geopolitics are here to stay.

That’s all for now. Thanks for listening. And be sure to check out our sister podcast, RBC’s Industries in Motion, for thoughts on specific sectors from RBC’s team of industry analysts.