Natural Gas Update

Cascadia Energy Ltd. June 2014 Issue Storage is the Key

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THIS SUMMER WILL BE IMPORTANT

If you are worried about next year and where the price of gas will be, this summer will be the time to pay attention. Storage issues, electric generation, speculation, weather forecasts, hurricanes; the list of things that can impact our energy future are longer this year.

The US economy, though weak, seems to be picking up some steam and speculators have moved back into the energy complex, buying oils, gas, petrol, and just about everything else.

Political unrest throughout the Middle East isn’t helping either, and is another thing to be watched. Speculation over LNG has also fanned some flames, as has the threat of EPA coal plant regulations damping coal use and spurring natural gas demand. Oh, and apparently commercial trucks are also using more natural gas.

HOPEFUL BUT CONCERNED

The dramatic weather of the past winter has created uncertainty about the near term future for natural gas prices. Prices spiked during the cold weather, as we might have expected, but the heavy demand also drew down storage reserves at unprecedented rates. This has left the market wondering if we can refill before next winter, and speculators rubbing their hands.

We’ll have a closer look at the facts and figures, give you our take on where it could lead, and what your best options might be.

A QUICK OVERVIEW

• Storage in the US stands at 1606 Billion cubic feet (BCF) out of a possible 3930 BCF, about 41% full.

• We need 106 BCF each week to get to last year’s level and 111 BCF each week to be full by Nov 1, 2014, the start of the heating demand season.

• The average weekly injection was 70BCF last year and has been 87 BCF so far this year. The weekly average for the past month has been 110 BCF, right on what is needed.

storage cooling demand prices

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Natural gas is stored underground in old wells and caverns. Each summer gas is injected close to cities and other consuming regions so that, during winter peaks, pipelines capacity can be augmented. In addition, it allows gas wells to produce on a more or less steady basis all year, a much more cost-effective proposition.

The graph shows a grey zone, the range of storage levels over the past five years. The dark line below is the current storage level, well below the five-year range and the red year ago levels. As noted on the front page, we have some catching up to do.

While we have started to close the gap early in the injection season, this is unlikely to continue if weather heats up. If that happens, natural gas will be diverted from storage to electric generation to provide power for cooling. As an aside, natural gas fired generation has increased by 30% over the past few years because gas has been plentiful and cheap and coal and nuclear plants are nearing end of life and being retired.

What does this mean for prices? We’ll examine the details in the following article, but directionally competition always increases prices. There is an added wrinkle though. As prices for gas go up so do the prices we will pay to reserve next winter gas. Essentially suppliers who store gas want to make a profit above the gas and storage costs and so those prices rise in tandem. If warm weather hits we could easily see a fifty-cent to dollar rise in winter prices fairly quickly.

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Pricing

Prices do react to fundamentals, such as storage. Of course they react to a complex of fundamentals that include storage, production, exploration, weather forecasts, and actual weather, but we’ve isolated just the storage component here.

Spring of 2012 we finished a warm winter with high storage levels and, as we might expect, prices were quite low. In 2013 we had a normal winter and lower spring storage and prices rose year over year.

Spring of 2014 followed one of the coldest and longest winters we can remember in North America and storage was at a record low. Prices, no surprise in hindsight, reached new highs.

Looking closely, you can note the storage at November 2013 was lower than the previous year, not by much, but enough to keep traders excited. It took little in the way of cold weather in December to get prices to a fever pitch.

Where will we finish by November 2014? If it’s lower than last year it’s our opinion that it won’t take much cold weather to quickly send prices higher than even last winter.

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Storage vs Price NYMEX vs US Storage

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Insurance So should we or can we get a reasonable way to protect ourselves from the possibility of high prices without it costing us an arm and a leg?

Generally, summer prices are lower than winter. As well, many, though not all, businesses use less natural gas in summer months. The first reasonable strategy, unless you have a budgetary constraint, is to focus on the winter time period.

Based on the prices for the past twelve months, we’ve compared the option of floating, 50% winter lock in and a minimum annual lock in for a “typical” customer.

We considered that prices will be 10% higher year over year, a reasonable assumption at this time, and compared that with a couple of fixed price scenarios. By comparing the total annual costs for each scenario we were able to determine if the "risk" of locking in exceed the "risk" of doing nothing.

Keep in mind, the purpose of the evaluation is risk appraisal and NOT to "beat the market", but rather to get some insurance. What if prices this winter are, once again, even more extreme? Prices may well be more than 20% over the base; that is, after all, the purpose of an "insurance hedge".

Comparing the three scenarios we determined that the annual costs are very similar telling us that buying an insurance hedge is likely a reasonable strategy.

It does not suggest that the hedge will "beat the market", but that if prices spike even higher, based on last winter peaks, there would be some protection in place, insurance so to speak.

And if we accept the assumption of a 10% price increase year over year, the hedge becomes almost "free protection" against a market explosion. Of course, looking at the other side, if we feel strongly that prices will drop back to levels of two years ago, then the hedge would be "out of the money”. This is not our position at this time, as prices are higher in the past few months by 30% year over year; we see little hope this will change for the better. That suggests the scenario is reasonable, and possibly conservative.

PLEASE CONTACT US AT sales@cascadiaenergy.ca for your custom risk evaluation.

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HELPING INDUSTRIAL CUSTOMERS REDUCE NATURAL GAS USE

Are you managing an industrial site that uses at least 10,000 GJ of gas each year, and looking to save on your gas costs?

If so, you may be eligible to take part in FortisBC’s Industrial Technology Retrofit Program. This program offers incentives to industrial natural gas customers to help them identify and implement projects that will reduce natural gas use.

This program provides industrial natural gas customers with funding for energy audits and energy efficiency measures, to help reduce the project payback period to as little as one year.

Here’s what you can get from FortisBC as part of this program:

• 50% reimbursement of the cost of detailed audit, up to $20,000 per site using 10,000

to 100,000 GJ annually or $40,000 per site using over 100,000 GJ annually • If you implement any of the measures, FortisBC will refund the remaining 50% of

the audit cost, so the audit becomes free • Capital incentives on energy saving measures are

o $5 per GJ saved for each of 3 years OR o the funding required to bring the payback down to 12 months

• Maximum incentives are o 75% of project costs up to $375,000 (for sites using 10,000 to 100,000 GJ),

or o 50% of project costs up to $1,000,000 (sites using over 100,000 GJ)

• A plan for Monitoring & Verification after the upgrades are implemented

The engineers at ClearLead Consulting are qualified auditors for this program. While we aren’t connected with this company, our dealings with them give us confidence in mentioning them to you. And it’s all in a good cause: reduced gas usage.

Contact them for a free initial site visit to determine eligibility and gas saving opportunities. They’ll work with you to obtain funding from FortisBC, perform the detailed audit, and help you implement energy-saving measures.

You can reach them at adrian@clearlead.ca, or 604-229-6159.

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Longer Term Outlook The long-term outlook, as we have said all along, remains rosy. Proven reserves continue to meet all projections until next century, and $4 gas continues to meet all projections until about 2040. Let me repeat: there is enough gas in North America to meet all projected demands, including LNG and transportation, until 2040 at $4 or less.

Now that doesn’t mean the price will be $4 because that is the simple production cost. Added to that are transport from the well head to the meter set, plus the “speculation” about short term supply and demand issues that any open commodity market faces. Still that’s pretty good news no matter what you angle.

Most of that gas is in shale, rock that needs to be fractured. That technology continues to mature and become cheaper and more efficient at extracting natural gas. All said, natural gas is here to stay for our lifetimes: it’s clean, efficient, and cheap.

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Fortis Rates As of April 1, 2014 Fortis raised their gas commodity and midstream rates. Of course you may wonder what that matters since you buy gas from another supplier.

We’ve always contended that Fortis, or whomever the utility is, is the best benchmark for evaluating your own buying program. After all, you’ve switched from the utility to save money and so long as you get the same service and the same security, that should be the measure.

Here are the current rates for the commercial and industrial customers.

As a Fortis client you pay them the transport you do currently as a transport client under rates 23, 25, 22, or 27 and for the gas, the portion you now buy direct, you pay the midstream and commodity components.

For Rate 23 this totals $5.75 per GJ, and $5.45 per GJ for Rate 25 and Rate 27.

As you may be aware, Fortis alters its rates every three months, basing the new rate on then current forwards prices, as well as charging for any “under-collection” in the previous period. Due to this constant adjustment to the past and future market, the rates tend to lag behind major changes in the market.

Usually it takes about six months for the Fortis rates to start moving in the same direction as a major market move. That means that when price do drop, as they will eventually, Fortis rates will stay high for about six months longer.

Currently the rates are well above the daily or monthly spot, as well and forward lock in rates for a year and beyond.