As can be seen in the previous post, the model predicted storage numbers based on a storage build season of 35 weeks. I have been looking at my model constantly as I am higher then anyone else then I am aware of. I've been checking and checking and thinking there was an error but could not find one.
Today I realized that predicting a storage build for 35 weeks is incorrect. While it could technically happen, because of the late start of build season, the build season is more likely to be 32 weeks. I have updated my model and the numbers come in a little lower.
My numbers are still higher then anywhere else that I have seen and are still dramatically bearish in my opinion.
The new projections are for 4.05 Tcf, 4.20 Tcf, and 4.12 Tcf. Not dramatically different, but about 0.1 Tcf or 100 Bcf difference.
Normally supply and demand works over time. Natural Gas is the exception for three main reasons (a few minor reasons too). The first reason is that oil is expensive. E&P companies are minting a fortune drilling for oil. Even when oil wells come in 1/3 oil and 2/3 gas, these companies are making a lot of money (IRRs are easily 25-30%). Some of these wells have IRRs in the 50-60% range (depending on how much oil is being produced, differentials from WTI/Brent, and pipeline vs rail transport). Supply is not going down, and has increased over the past twelve months.
I am not saying that supply will increase forever, supply will not decline dramatically until oil prices decline. The bulls have been arguing for the past year that supply will come down. Eventually they will be right, the question to me is it now, 1 year away or 2 years away. (I am in the camp of 1-2 years away but that is more about when demand starts to catch up, and not supply going down).
The second reason that supply and demand is not working is because of how leases are structured. From 2006-2012, a lot of shale plays were leased and usually have a 5 year contract.
Because of the characteristics of leases, there has been plenty of drilling done to hold acreage, so heavy natural gas wells were drilled to hold production. Some of the earliest leases are held by production and will not be drilled further until Natural Gas rises. There are still leases signed that will need to be drilled, regardless of price.
The third reason I cite is the higher price of Natural Gas in further out months. (Contango) is stopping major users from increasing their demand for natural gas. Lets argue today (at spot of 3.45) that a utility is (financially) better off generating electricity from natural gas vs coal. That is fine and great, but natural gas 3 months out is $3.81 or over 10% higher and is over $4.00 12 months out. If there is a high switching cost for this fictional utility, the utility that would use Natural Gas today does not make the swithc, since they cannot lock in the low price for very long.
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