In an earlier post “Natural gas deliveries tumble” it was reported that U.S. natural gas inventories increased by only 18 billion cubic feet (”Bcf”) for the week ended October 16, 2009 bringing the amount of natural gas in storage to 3,734 Bcf.  There have been cooler-than-normal temperatures possibly contributed to the below-normal rate of injections during the report week and as stated by the EIA, “Robust levels of gas in storage also likely contributed to the below-normal injections, as some pipeline companies required their interruptible storage customers to draw down working gas levels as some storage facilities approach capacity.” The big question is how much did these interruptible storage customers draw down and what sort of capacity exists here? It will be interesting to see today’s report to see if it supports the last delivery report or if it makes it a one-off occurrence.

Regardless, this decrease in natural gas deliveries is a significant, and notable drop of 50 Bcf from the previous week deliveries (deliveries for the week of October 9, were 58 Bcf). We have been stating here the last couple months that late October, early November would be a key time for natural gas. Up to this point there has been a race to see if natural gas would reach physical storage limitations and have a negative impact on the price of natural gas.

We estimated that if natural gas deliveries were to average 65 Bcf or better per week, natural gas would reach its physical storage limitation near the end of October putting renewed downward pressure on natural gas. At the same time,  production cuts would not have full effect  on decreasing deliveries until existing hedge contracts expired through to the end of October.  The conclusion was that late October, early November was when we would start to see a significant reduction in net deliveries, and a subsequent draw down on natural gas inventories right when the winter heating season should be kicking in. With only 18 Bcf injected into inventories, and a lower-than-normal temperatures in the US, the storage capacity concerns have likely been avoided all together. Temperatures are going lower from this point forward which increases natural gas heating consumption which will draw down on inventories.

Natural gas prices have  appreciated nicely off the lows as the short squeeze helped move prices up and take attention away from the bears. Profit taking occurred and natural gas is trading pretty much sideways at $5.  Support is  indicated at $4.35. Breaking this support level indicates the short term top is set.  Some are again stating that shale gas has surprised both producers and analysts alike and exceeded expectations even after production rates come off and that natural gas has no business going to $5. They could very well be right. It really depends on what the producers have done in the field.

Though production cuts have occurred across the board, activity continued in the shale with many vertical wells being completed before work was halted. In other words, there are numerous vertical wells completed and waiting for horizontal drilling and fracturing. With revenues and profits down substantially natural gas producers are eager to get production back online but  producers jump back into completing these wells depends on the impact winter weather has on natural gas inventory levels.

Shale gas discoveries dramatically increased supplies right when a recessionary drop in demand occurred. The result was a fall in price and cuts in drilling and cuts in production. Managing this situation  is very challenging and not a coordinated effort between producers. Natural gas is seasonal and its supply and demand factors are impacted by hot summers, hurricanes and cold winters.  The whole thing resulted commodity that is very challenging to manage. Producers take an independent strategy of cutting production when prices drop. Prices drop when supplies go up because of cooler summers and warmer winters which lower demand. The opposite increases demand and prices along with hurricanes that rip through the Gulf of Mexico and impact gas production in the region.

High inventories of natural gas are par for the course as the winter heating season approaches. And these inventories are drawn down over the winter to be replenished during the spring in preparation of the summer A/C season – the cooling season. What’s a little bit different this time is we are entering the winter heating season with record high natural gas inventories. So winter weather will once again determine inventory levels and how producers will respond with bring production back on – or not. Temperatures were generally cooler than normal  in the US during the week ended October 15 with temperatures 4 degrees lower on average, according to the EIA. Its a good start, but not necessarily the forecast situation for the rest of winter.

In its winter outlook covering December through February, the National Oceanic and Atmospheric Administration (“NOAA”)  points out that the El Nino phenomenon will be the dominant factor influencing weather across the United States. But it is a mixed bag. According to the NOAA and as recently reported by Reuters;

NOAA forecasts temperatures to be warmer than average across much of the western and central United States and below average in the Southeast and mid-Atlantic from southern and eastern Texas northward to southern Pennsylvania and south through Florida. The forecast for the Northeast, the world’s largest heating oil market, called for equal chances of above-, near-, or below-normal temperatures and precipitation. Long-term forecasts for the region are difficult because weather there is generally not influenced by El Nino but by other factors.

In contrast to NOAA, AccuWeather.com on Wednesday forecast a weakening El Nino weather pattern that could lead to the stormiest and coldest U.S. winter in recent years.

Weather forecasters polled by Reuters tend to agree that the Northeast is in for a winter packed by more severe storms, and frequent blasts of arctic air.

A colder winter packed with severe storms may not be what New Yorkers want but it is welcome news for natural gas producers. What we will be looking for is to see if colder weather will be enough to draw down natural gas inventories to near historical averages, or will the weather be moderate and leave inventories at higher then average levels at the end of the winter heating season which would negate the need to increase production and place downwards pressures on natural gas prices. Factor into these unpredictable factors (weather) the emergence of natural gas as a cleaner alternative energy another unknown, and there is a lot of uncertainty still in natural gas prices. A cold winter could be the only way to tell.

Financial Times: US gas avoids capacity crunch

Reuters: Winter weather split in US; El Nino lingers: NOAA