Record U.S. Natural-Gas Output Likely To Continue In 2011

Record U.S. Natural-Gas Output Likely To Continue In 2011

By MATT DAY

NEW YORK—The U.S. is inundated in natural gas, and the glut may not ease any time soon.

Domestic production last year hit its highest level in almost 40 years, and 2011 will likely see another year of strong production. That means another year of subdued electricity prices and pressure on drillers' bottom lines as well as a powerful incentive for companies and other consumers to switch to the heating fuel.

Production of natural gas in the U.S. grew for a fifth consecutive year in 2010, and was the highest since 1973, the Energy Information Administration said Monday. Rising output from newly profitable shale-rock formations across the U.S. has surpassed many industry observers' expectations, and the U.S. produced 21.57 trillion cubic feet of consumer-grade natural gas during the year, just short of the 1973 record of 21.73 tcf.

With no way to export large quantities of gas and a drilling boom fueled by easy availability of credit and widespread international interest in U.S. gas assets, the glut is seen continuing through 2011.

"Rising production will once again overwhelm demand, leading to yet another year of low prices," Credit Suisse analyst Stefan Revielle said in a research note.

In its latest outlook, the EIA saw U.S. production increasing by 0.8% this year, while deliveries to consumers are expected to rise by 0.3%.

For consumers, that means cheaper electricity prices and inexpensive gas for heating and cooking in homes and businesses.

"There's a double benefit on the consumer side, both in their gas rates and their electric bills," said Branko Terzic, executive director of the Deloitte Center for Energy Solutions, a consultancy.

But for wholesale power producers and gas drillers, whose profits can be closely tied to commodity prices, a gas glut that stretches well into 2011 could pressure their margins.

While cheap prices for commodities such as crude oil or wheat might lead to immediate increased demand as consumers become more likely to take long trips to vacation spots or increase purchases of food staples, drillers can't count on a similarly quick response to consume the excess gas.

Residential demand for the fuel has been stagnant for years with increasing efficiency of gas-heating systems, while demand from energy-intensive industries such as chemicals and metals manufacturing was hit by the recession and declines in the U.S. manufacturing base.

Dow Chemical Co. Chief Executive Andrew Liveris said last month that cheap natural gas could make the U.S. chemicals industry more competitive compared with foreign companies that pay more for gas.

"The cost curve is going to change with time and the U.S. producers will continue to be advantaged as the second lowest cost on the planet after the Middle East," Mr. Liveris said on a conference call to discus Dow's fourth-quarter results.

But any potential renaissance among gas-heavy manufacturers is a longer-term story, analysts say. Industrial growth in the U.S. has outpaced the broader economic recovery, but its pace should slow in 2011, analysts with Barclays Capital said in a research note.

Instead, meaningful increases in U.S. demand this year would likely be led by increased gas use by power companies, and market participants are closely watching the relationship between gas and coal prices. Called fuel-switching in the industry, the substitution of gas for coal-fired generation is likely to persist in 2011 as companies favor the cheaper, cleaner-burning fuel.

Gas-fired electricity makes up about a quarter of U.S. power generation, a percentage likely to rise as power companies are expected to build more plants that burn gas instead of coal because of the threat of federal regulation of greenhouse-gas emissions.

Low U.S. gas prices compared with global rates have also spurred a move toward exporting the fuel. Freeport LNG Development LP along with Macquarie Group Ltd. and Cheniere Energy Inc. in the last year announced plans to construct facilities along the Gulf of Mexico to export cargoes of liquefied natural gas. If the plans receive approval from the U.S. government, the facilities could enter service as early as 2015.

As for 2011, "shrinking demand and growing supply send a clear message to forecasters," Barclays analyst Michael Zenker wrote in a research note. "Lower prices."