by Bob Shively, Enerdynamics President and Lead Instructor

If there’s one thing certain about natural gas markets it’s that they are always subject to change. In the last decade, the shift in the U.S. supply-and-demand mix with the influx of shale gas has been widely discussed. But less discussed is how the locational change in gas production is fundamentally altering the gas marketplace. Let’s explore this transformation and some of its key impacts.

As noted in a recent Reuters article[1], Henry Hub trading volumes on the Intercontinental Exchange (ICE) have shrunk by 70% in the last five years while trading in regional hubs has grown significantly. Notable changes include:

• Trading in the Dominion South Hub, the largest hub in the Marcellus shale gas region, is now almost double the Henry Hub volume. This reflects changes in gas production.
• Gulf of Mexico production has shrunk from 20% to 4% of U.S. production.
• Production in the Marcellus region has risen to 20% of U.S. production and is expected to continue its growth this winter.

As is expected, such shifts are causing fundamental changes to the gas marketplace:

• Gas flows are dramatically evolving. The mid-Atlantic and Northeast states were traditionally fed mainly by Gulf supply with additional supplies from Canada. This winter, production from the Marcellus region is expected to be sufficient to serve all of Pennsylvania, West Virginia, New York, New Jersey, Delaware, Maryland, and Virginia demand.
• Gas prices in the mid-Atlantic and Northeast states have dropped dramatically and are likely to remain low except during very high-demand days when pipeline capacity is insufficient. The long suffering consumers in these regions may suddenly become favored.
• For many regions, it no longer makes sense to price or hedge off Henry Hub since prices are being driven by local production relative to local demand. Perhaps Henry Hub will no longer be viewed as the continental pricing point.
• Gas pipeline construction is racing ahead to move gas from the Marcellus region to other markets, including moving gas south to Henry Hub and the Southeast. Henry Hub appears poised for another gas price battle between supplies from the Marcellus, Permian, Anadarko, Barnett, and Gulf regions. In the short term, prices may fall well below the recent $4 averages.
• Low prices will boost ongoing demand growth with additional gas-fired power generation, large industrial facilities, and LNG export projects.

What does this mean for the longer term? One scenario is that producers — hit by low gas prices and maybe also low oil prices — will dramatically cut back drilling and exploration. Then, later in the decade just as all the new demand projects come on line, production could drop and lead to a significant price increase. This would be similar to the numerous boom-bust cycles I have seen in my 30 years in the energy business. Whether shale production will make it different this time remains to be seen.

Footnotes: 

[1] See Henry Hub, King of U.S. Natural Gas Trade, Losing Crown to Marcellus, September 25, 2014.