U.S. Gas Drillers Are About To Start Cutting Output
- Several U.S. gas drillers are having to sell their gas below break-even price.
- Reuters: Last September, just about 36 percent of 2023 gas production in the United States was hedged.
- Like U.S. producers, many European gas buyers did not hedge by inking forward contracts with other buyers.
Some U.S. natural gas producers that didn’t hedge their output this year are having to sell their gas at prices that are below their breakeven price. At less than $2.50 per million British thermal units, natural gas prices have fallen more than threefold over the last six months with no immediate prospect of a reversal. And supply is about to tighten.
In an article published earlier this week, Reuters cited industry insiders and analysts as warning that the gas price drop from more than $9 per mmBtu in August last year to $2.405 at the close of trade yesterday will affect companies’ first-quarter earnings and outlook. It will also affect their drilling plans. Because most of them didn’t hedge future output.
Hedging is often popular with oil and gas companies as a means of locking in a certain price for future supply. However, it sometimes falls out of favor because of the risk of missing out on even higher prices. This might well be what happened with U.S. gas.
Last September, just about 36 percent of 2023 gas production in the United States was hedged, Reuters reported, citing data from Energy Aspects about 40 public gas drillers. A year earlier, the number was 52 percent.
The lower hedging appetite could be easily explained. In September, Europe was still actively stuffing itself with U.S. LNG in anticipation of a regular, cold winter and almost no Russian pipeline gas. But the winter turned out warm, and the storages full of costly U.S. gas remain rather full. And they are likely to stay that way for a while.
Like U.S. producers, many European gas buyers did not hedge by inking forward contracts with other buyers. As a result, they have lost billions from the difference in the price of gas at which they filled storage caverns and the price at which gas is currently trading on the spot market.
So, there are fuller than usual gas storage sites in Europe and returning gas demand in Asia. The former is bearish for prices, and the latter is bullish. Yet Asian demand does not seem to be bullish enough because, per the Reuters report, some U.S. gas producers are already considering drilling curbs.
“Last year was pretty jarring for folks, who weren’t ready for the uptick in price. A lot of folks probably sold off those hedges and wanted to be exposed to the upside and might see themselves in the predicament they’re in now,” the chief executive of PetroNerds, an energy consultancy, told Reuters.
The same thing happened several years ago when oil prices began rising on tighter supply. Many producers wanted to capture as much as possible of the upside risk, and hedging rates dropped. When the bust, which follows every oil and gas boom, began, these producers remained exposed to it and suffered the consequences.
Most analysts expect gas prices to remain subdued this year. There is plenty of supply coming from the U.S., but other big LNG producers are not sitting idly either. Less than a year after the gas shortage scare in Europe, there appears to be a glut. And U.S. producers are responding.
Some warned about the coming supply tightening earlier this year. The chief executives of EQT and Chesapeake both said there would be no significant gas production growth in the United States this year because of the price slump.
Growth in gas supply is not needed in the short term,” Chesapeake’s Nick Dell’Osso told Bloomberg in January. “We do think the industry should acknowledge that and may reduce growth in the near term.”
What this means is that whatever else happens, it’s cyclical business as usual in oil and gas. When demand is strong, prices soar, and suppliers respond with more production. As the market begins to get saturated—in this case, thanks to a warmer winter in the northern hemisphere—demand declines and, with it, prices. Supply then follows down.
When the glut will clear will depend on the weather, and since spring is around the corner, it might take a while. Meanwhile, Europe will continue sitting on its full—and expensive—gas in storage, unable to take advantage of lower prices to refill it at a discount.
The bigger problem is that last year, when prices were sky-high and U.S. gas producers were in seventh heaven, plans began to be made for more export capacity. U.S. shale majors became interested in expanding their markets internationally. BloombergNEF predicted that U.S. LNG export capacity would soar to 169 million tons by 2027.
Yet this massive capacity buildout will only happen if the price is right. At the moment, the price couldn’t be more wrong if it is below some producers’ breakeven levels. And this means that these predictions are not worth much as an indicator of future developments in the dynamics of gas supply and demand. There was a boom last year. Now it’s time for the bust, so it could make way for the next boom, which, weather allowing, could begin before the year’s end.
By Irina Slav for Oilprice.com
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Irina Slav
Irina is a writer for Oilprice.com with over a decade of experience writing on the oil and gas industry.
Published at Wed, 15 Feb 2023 17:00:00 -0800