Injection Season is Over

Back in February, I wrote an article called Natural Gas Inventories are Headed Toward Zero. The purpose of the article was to call attention to the fact that natural gas inventories were experiencing the fastest decline in U.S. history, and were approaching dangerously low levels heading into the end of winter. In August I did an update to that article called Why Natural Gas Prices Collapsed. Because natural gas prices rose following that article, and since injection season is now over (see below), let’s once more revisit what happened with natural gas this year.

In prior articles, I explained how the U.S. natural gas inventory system works. The U.S. has 9 trillion cubic feet (tcf) of natural gas storage capacity, but according to the Energy Information Administration (EIA), the actual amount in storage has never exceeded 4 tcf. During the summer season when demand is lower, natural gas inventories will usually build to between 3 and 4 tcf. This build usually starts around mid-April, and then about mid-November as cold weather begins to ratchet up natural gas demand, the withdrawal season begins.

This year injections began during the first week of April. At that time, natural gas inventories were at their lowest level in more than a decade, so that any supply/demand imbalances during injection season could cause natural gas prices to spike. In fact, gas prices did spike several times toward the end of what was the coldest winter in many years. My thesis was that low inventories would affect the natural gas markets in the following ways. Year-over-year natural gas prices were likely to be higher than the previous year because supplies were lower. Natural gas producers would need to produce at high rates to replenish the inventories, and since I believed they would be getting better prices for the natural gas, profits would be up for most producers. This, naturally, would cause the share prices of natural gas producers to rise.

But markets can behave irrationally. You can be right on all the details, and still have the market go against you. This is one reason I don’t short stocks. I have seen the market cap of a $500 million company that I thought was worth less than $100 million rise above $1 billion before beginning its decline. So your investment thesis may be sound, but you could still lose money.

Going long is different in that I can exercise more patience if I am not investing on margin. I believe that a number of drivers (e.g., the phase-out of coal, the beginning of LNG exports) will push natural gas prices higher over the long term. But the short-term natural gas markets are far more weather-driven. Over time those weather events will roughly balance out, so if I am correct on the long-term thesis I can ride out the short-term moves.

Last winter’s colder-than-normal weather was one of those short-term weather events that lined up with my long-term thesis on natural gas. Natural gas prices would surely rise. But short-term weather events can go both directions. A mild summer moderates natural gas demand from utilities because of reduced use of air conditioning. On the other hand, a hot or even a normal summer, combined with the severely depleted inventories, had the potential to cause much higher natural gas prices.

How often do we have a mild summer? Not often in recent years. So it was a pretty good bet that there would be upward pressure on natural gas prices through the summer.

But the U.S. did have a mild summer this year. In fact, despite recent reports that this was the hottest year on record for the planet overall, the U.S. was one of the places experiencing cooler-than-normal weather:


After a series of warmer than normal summers, much of the eastern half of the U.S. (and Canada) had cooler than normal temperatures. As shown in the graph below, natural gas demand from electric utilities was lower this summer than in the previous two summers (although only modestly below last year’s demand).

Electric Demand

Meanwhile, natural gas producers did produce at the highest levels in history. Last year’s record production was surpassed.

Dry Gas

The net result was that natural gas inventories were refilled much faster than normal this year:

Gas in Storage

The November 14th edition of the weekly Natural Gas Storage Report showed the first decline of natural gas inventories since spring. This marked the beginning of withdrawal season. We started this year’s withdrawal season only 6.4% below the five-year average for this time of year, and only 5.3% below last year’s level. If we have a winter like last winter, we are going into it in slightly worse shape than a year ago. Because of the mild summer, we are in much better shape than we might have been. But this first cold spell came earlier than normal, so only 2 weeks into injection season we are back to 10% below the five-year average.

So how did all of this impact my short-term natural gas thesis? Natural gas prices were in fact consistently higher than they were a year ago (also one of my 2014 predictions):

Gas Prices

Natural gas producers, as shown in the previous graphic, produced at their highest levels ever. So we had higher prices and higher production. This did in fact translate into higher year-over-year profits for most natural gas producers.

But the mild summer and the speed at which inventories were refilled kept the share prices of most of these producers in check. Some major natural gas producers that are also significant oil producers, like Devon Energy (NYSE: DVN) and ConocoPhillips (NYSE: COP), had very impressive returns up until the oil price correction that started in July (and both have held up well during the major sell-off). Others, like the Cabot Oil and Gas (NYSE: COG), saw their share price decline even though natural production and profits surged.


Ultimately, the long-term thesis on natural gas remains the same: I am bullish. But I am more neutral now on the short-term, because inventories are near normal and I can’t predict the weather. Even so, given the same conditions that we saw in the spring, I would make the same short-term bet all over again. Most of the time it should work out better than it did, but this year a mild summer tempered returns.

By Robert Rapier. You can find me on TwitterLinkedIn, or Facebook.