Unnatural Demand For Natural Gas

Prices explode, while supplies fall near their lowest level in years

Fed up with heating oil prices that more than doubled this winter, James Cenesullo is spending $900 to retrofit his two-story home in suburban Boston to burn natural gas. "I went for natural gas because oil was going ballistic," says Cenesullo. "I'm looking forward to price stability."

He shouldn't count on it. Like Cenesullo, a growing number of utilities, businesses, and consumers are switching to natural gas to escape spiraling oil prices. While it has garnered most of the headlines, stampeding demand has also helped send natural gas prices soaring--up more than 30% at the wellhead vs. a year ago. Although regulatory protection keeps consumers from absorbing all of that increase right away, prices have jumped 9%, to about $6.63 per 1,000 cubic feet. Costs are likely to increase an additional 6% by next winter. "A seller's market for natural gas has officially arrived," proclaims analyst Robert L. Christensen Jr. of First Albany Corp.

The seeds of this shift were sown two years ago when crude oil prices started to fall, bottoming out at $10 a barrel by the end of '98. That forced many energy companies to reduce or abandon drilling for new oil and gas. It has also become harder to squeeze production from maturing U.S. properties. In the past, the U.S. could turn to Canadian producers, but supplies are now tight up north, too.

The result: Supertight supply just as demand is skyrocketing. Inventories are near their lowest levels in four years--just as the industry starts its critical April-to-October season, when storage tanks are refilled. The American Gas Assn. says inventories stand at 1.1 trillion cubic feet, down 22.8% from a year ago. The shortfall comes despite three straight years of warmer-than-normal winters. Analysts predict it will be difficult to rebuild reserves in time for next winter.

A buoyant economy is making that job even tougher. Industrial users account for nearly half of the demand, while residential consumers account for 22%. The Energy Information Administration estimates natural gas demand will grow nearly 5% this year; production is expected to increase less than 1%. Next year, the agency estimates, demand will climb 3%, while production will rise a mere 0.3%. "North American gas markets are heading for a major train wreck," warns Goldman, Sachs & Co. analyst Donald F. Textor.

BYE BYE, COAL. Fueling the growth in demand is a new generation of power plants that use efficient and environmentally friendly natural gas. Regulators are cracking down on utilities with older coal-fired plants that violate clean-air standards. Analyst Christensen says some 22 new natural-gas power generators will crank up this summer.

The strong market has caused a pick-up in drilling, but not fast enough to meet demand until the middle of next year. In the meantime, "every single gas well in the U.S. and Canada is producing at maximum rate, 365 days a year--and there is still no spare capacity," says Mark G. Papa, chief executive of EOG Resources Inc., a Houston exploration and production company.

Unnatural Demand for Natural Gas

That's good news for EOG and other outfits like Anadarko Petroleum and Apache Corp. Donaldson, Lufkin & Jenrette Securities Corp. analyst David C. Bradshaw estimates cash flow at the exploration and production companies he tracks, which are heavily weighted toward natural gas, will jump 50% this year over 1999. Apache CEO Raymond Plank predicts his cash from operations will swell to more than $1 billion this year, from last year's record $728 million. He's devoting that surplus to more drilling, boosting his budget by 50% to $600 million.

Moves like that should eventually mean more gas and lower prices for consumers. But until then, they'd better be praying for another warm winter.

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