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Lessons from the Cold

January 16th, 2014

OMAHA (Capstone Energy Services) – The cold weather that has gripped the eastern two-thirds of the country this last week has been the coldest in the last 10-20 years. It was the second major cold spell of this winter season pulling down storage inventories and creating massive price volatility in markets threatened with limited supplies. Prices in the New York metro and New England area easily set records exceeding $100 per MMbtu and Chicago prices traded for more than $25 per MMbtu.

While this outbreak of extremely cold arctic weather is unusual, it has happened before with periods that have been colder and lasted longer. However, it did highlight significant regional supply and delivery problems that exist and will likely continue to exist during extreme cold weather:

  • Installed Pipeline Capacity – The lack of pipeline capacity to New England was a known problem and high price volatility was expected; however, the extreme volatility in the New York metro area this week surprised many analysts. Increased delivery capacity to the area came on line this fall, but fell well short of the demand requirements. Clearly, deliverability into New York remains insufficient to meet peak day demands. In addition, the price spike raises questions concerning proposed plans to reduce mainline capacity from the Gulf of Mexico to the Northeast. The lack of deliverability out of the Marcellus Shale only added to the Northeast supply problems. Gas Daily pricing for the 7th showed Transco Zone 6 (Non-NY) trading from $40 to $90 per MMbtu and Tennessee Zone 6 (Boston) from $29 to $48 Per MMbtu, while at the same time Transco Leidy and Tennessee 300 Leg (both Marcellus) were trading from $2.50-$3.20 per MMbtu.
  • Operational Flow Orders – Many pipelines and utilities either issued or threatened to issue Operational Flow Orders requiring customers to keep deliveries at or above takes. These actions resulted in a barrage of spot market purchases, which only added to the price volatility as available supplies dwindled. In addition, suppliers with non-firm or recallable capacity lost deliverability and had to scramble to find replacement capacity or supplies from other locations and end users with interruptible supply or delivery contracts were interrupted or curtailed.

It should be noted that all of this price volatility was only on the daily cash markets. The NYMEX futures contract was actually declining during the arctic cold, from the $4.463 per MMbtu high reached on December 23rd to the $4.005 per MMbtu close this Thursday.

Since these arctic blasts are unusual, it is difficult how to integrate them into a natural gas supply strategy without incurring undo expense, particularly when the intent is to protect against a risk that will occur every five or ten years. However, there are some strategy considerations that will help alleviate problems when an arctic blast does occur: 1) Evaluate the reliability of suppliers and their underlying delivery capabilities 2) Schedule winter volumes based on appropriate cold weather assumptions; 3) If using storage or banking service, develop an emergency supply strategy should the service not be available due to the weather 4) watch the weather closely to take action well before the last minute scramble: 5) consider a hedge strategy to fix the price for some or most of expected consumption to avoid high winter prices and winter weather price volatility; and 6) have the response plan in place before the next arctic blast occurs. The next one could be both colder and longer.

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By Ed Freeman

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