The Low Energy Price Limbo

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It should be no surprise to anyone that energy market prices are low. We see it at the gas pumps, our heating bills and when we shop for electricity. This is fantastic news for consumers but it does make me wonder how long it can last, so I’ll provide my short term and long term views.

Fundamentally, the Ohio energy market has been turned on its head over the past several years. The factors that used to drive pricing just a few years ago no longer exist. A great example of this is the impact hurricanes now have on Ohio’s natural gas prices. Such an event used to send natural gas prices screaming as production from the Gulf of Mexico was shut down. Now, the market in our region cares very little  about hurricanes due to the incredible amount of local production. Understanding new influences is the key to developing a view of the market.

 

My Short Term View

Current pricing for both natural gas and electricity in Ohio are near all-time lows primarily due to an oversupply imbalance. The electricity market is highly correlated to natural gas; as natural gas prices move, the electric market moves in tandem. The mild weather this winter stymied demand, while at the same time lower drilling costs created record highs in natural gas production.  The result: prices are circling the drain.

The traders have given up on any sort of winter weather reversing the oversupply situation, so their only hope at this point is summer demand. Traders will likely overreact at any hint of above normal summer temperatures, creating price spikes. Traders make their money on price volatility.  Those that are still trading energy, which many have already left the market for more volatile commodities, are starving for price fluctuations and will help create them upon any bullish news.

So my short term view is bearish to neutral; however, summer heat will create short term price spikes.

 

My Long Term View

More than ever, eyes are on the crude oil market. Where there is oil there is usually natural gas so oil production has a big impact on  natural gas supply. The crude market has dropped in price by 67% since mid-2014. Not many exploration and production companies can survive in this type of price environment and we are already seeing the headlines of massive layoffs, capital expenditure cuts and the smell of bankruptcy in the air. This all points to the potential of a long term production decrease which will in turn create upward pressure on prices.

In addition, coal fired power plants continue to be economically stressed due to environmental restrictions, price of coal relative to natural gas and inherent inefficiencies of the technology. Power plants that have dual fuel capabilities have switched to natural gas as gas is now the least cost fuel. If fuel prices were not enough, it takes about 40% more energy to make a megawatt  of electricity with vintage coal technology vs. modern natural gas technology. High price of fuel plus high cost to covert to electricity does not make for low cost of goods sold. Since 2014, owners of such assets have been retiring these plants in significant numbers as they can no longer compete. This loss of generation is certainly an argument for higher electricity prices going forward.

Finally, demand for natural gas is expected to increase nearly fivefold in the liquefied natural gas (LNG) and Mexican export arenas. This additional demand coupled with longer term production and generation decreases sways my opinion toward a long term bullish trend that could start as early as 2017.