October 16, 2019

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Natural Gas Extends Winning Streak As Near-Term Computer Models Turn Down The Thermostat Further For Late October & Early November; EIA Announces Largest Decline Yet For Drilled But Uncompleted Wells--What Does It Mean For Oil & Natural Gas Right Now And Next Year? Gas Demand To Jump Today As Quick-Hitting Chill Expands Across Heartland

6:00 AM EDT, Wednesday, October 16, 2019
Natural gas rose for a second straight session on Tuesday, gaining another 6 cents or 2.6% to settle at $2.34/MMBTU. It was the highest close for the front-month contract since Monday, October 7. The December 2019 contract--held by the 3x ETF UGAZ--closed up 3 cents at $2.53/MMBTU. After UGAZ completed its roll last week, the popular unleveraged ETF UNG has continued to hold only Front-Month November 2019 contracts, but will begin its rollover today and will suffer approximately the same 21 cent contango faced by UGAZ.

The driving force behind this week's rally has continued to be the prospect for a prolonged period of unseasonably chilly temperatures during the final days of October into November. On Tuesday, if anything, the near-term outlook trended even colder with 14-day accumulated GWDDs forecast by the GFS ENS and ECWMF ENS rising higher still, as shown by the Figure to the right, though the GFS remains the colder model of the two. The combination of below-average temperatures and an exceptionally overcrowded bear trade--72% of NYMEX money manager holdings are short per the latest CFTC data--could continue to fuel a near-term short squeeze higher. But with the year-over-year storage surplus still likely to top +550 BCF in November, I feel upside potential will be relatively limited. My near-term price target for the December 2019 contract remains $2.60/MMBTU.

Meanwhile, oil continues to trade in-step with US-China trade talks and the current sentiment is not optimistic. WTI fell another 78 cents or 1.5% to settle at $52.81/barrel while Brent shed 61 cents to $58.74/barrel. Because of the Columbus Day Holiday on Monday, the EIA will be delaying its weekly Petroleum Status Report detailing crude oil inventories from its typical Wednesday release until Thursday morning at 11:00 AM EDT.

However, on Tuesday afternoon, the EIA did release its monthly Drilling Productivity Report detailing oil and natural gas producing wells, including Drilled But Uncompleted wells (DUCs), for the month of September. These are wells that, as the name suggests, have been drilled but not hooked up to pipelines to begin producing oil or natural gas. They act as a reservoir of sorts that producers can draw upon to maintain or grow production. For the past 3+ years, DUCs had been rising, driven by new wells coming online in the Permian Basin that were left uncompleted and unconnected due to an absence of takeaway capacity. However, with new pipelines coming online in the region and rig counts tumbling, producers have begun to dig into the DUC pool. As the Figure to the right shows, between January 2014 and March 2019, DUCs nearly doubled from 4360 wells to 8230 wells, a massive reservoir of potential output. Since March, however, DUCs have plateaued and rolled over, falling each of the last 6 months with DUCs falling by a total of 511 wells during that span.

Further, as shown in the Figure to the right, the rate of decline of these wells has accelerated. September's 206 well drop was the largest on record, topping the previous record of -150 wells from a month earlier. This suggests that in order to maintain--or grow--current levels of production, monthly new well production by the current rig count--712 rigs for oil and 143 rigs for natural gas per the latest Baker Hughes data, each down 20% or more in the past year--is insufficient. Producers have had to draw increasingly hard on DUCs to keep up pace. At some point, the DUC pool is going to run dry and US energy production is going to stall. However, as bullish as such a scenario might be, that time won't be any time soon as there still remains a huge reservoir of DUCs. Based on the current DUCs and the decline rate, exhaustion of available wells wouldn't occur for nearly 38 months, or until around November 2022, if it happens at all. This could theoretically happen sooner should the draw rate accelerate--to as early as April 2021, for example, should the decline rate double again to -412 wells/month and hold there--but no matter what, it will take a while. Nonetheless, what we are seeing is increasing evidence that producers are beginning to face the consequences of the unrestrained growth in output over the past few years and a clear sign that this growth will not continue indefinitely. To be clear, this is a long-term predictor for supply/demand balance and there are no current impediments to further production growth, but at some point, declining DUCs will become a headline issue. Click HERE for more on DUCs on the EIA's page dedicated to the subject. Finally, it is worth noting that there is contention within the industry (as discussed HERE) on the accuracy of this count with many producers feeling that the EIA is significantly over-estimating the DUC count. Should this turn out to be accurate, exhaustion of the DUC pool could come sooner than expected.

Meanwhile, natural gas demand will rise for a second straight day today as unseasonably chilly temperatures rapidly expand across the central US into the Ohio Valley. On the one hand, after reaching the upper 80s to lower 90s on Tuesday, highs across Texas--the nation's largest natural-gas consuming state--will plunge into the upper-60s to mid-70s statewide with the major demand centers of Houston, Dallas, and San Antonio only reaching the low 70s, crushing cooling demand. On the other hand, across the northern tier, highs will only reach to near 50F in Minneapolis, Chicago, Des Moines, and Indianapolis after falling into the upper 30s this morning, 10F-15F colder-than-normal and sufficient to boost heating demand across a large area. This chill will extend east towards the Appalachians with Pittsburgh and Columbus, OH only seeing the mid-50s today, around 10F below-average. Overall, today's forecast mean population-weighted nationwide temperature will fall 1.4F from Tuesday to 60.6F, a new shoulder-season low and just 0.1F above-average thanks to residual warmth across the Eastern Seaboard. Total Degree Days (TDDs) will rise to 8.8 TDDs, 0.3 TDDs greater than normal and the 10th most for October 16 in the last 38 years since 1981. To be clear, today's short of unseasonably chilly temperatures is not associated with the much larger cooldown that has driven the rally in natural gas prices the past two days. That wouldn't begin until late next week, at the earliest. Click HERE for more on today's temperature and degree day outlook.

Based on this forecast and early-cycle pipeline data, I am projecting a +12 BCF/day daily natural gas storage, down 2 BCF from Tuesday's build but still 2 BCF bearish versus the 5-year average +10 BCF/day injection and 4 BCF larger than last year's injection. By tonight, projected Realtime natural gas inventories will reach 3584 BCF while the storage surplus versus the 5-year average inches up to +27 BCF. The year-over-year surplus, meanwhile, will growth to +514 BCF. Click HERE for more on today's projected daily storage injection and Realtime natural gas inventories.