Both the oil & LNG markets are looking to the US for direction on what happens next. The importance of the US stems from its key role as marginal producer of crude and marginal supplier of LNG.
Covid-19 has triggered a focus on the price relationship between US natural gas and WTI crude prices. This relationship is influenced by large volumes of associated gas that are produced as a by-product of US shale oil production. This means that as oil well drilling momentum declines with lower crude prices, it is also causing a supply reduction in the US domestic gas market.
The two chart panels illustrate the evolving price relationship between the WTI crude and Henry Hub price benchmarks. Rather than looking at the ‘noisier’ front month contract relationship, we’ve stepped out along the curve 6 months to Jan-21 where price behaviour is more stable.
Both oil and gas prices fell in parallel across Jan – Mar 2020 as expectations of the demand impact of Covid gathered pace (although oil fell by much more on a relative basis). From Mar-20 however, Henry Hub started a significant recovery to well above pre-Covid levels. This rally reflected that US shale drilling was going to be cut back sharply, and as a result, associated gas volumes were going to fall.
Oil has rallied again across May-Jun 2020, Henry Hub has fallen back again. A negative WTI vs Henry Hub forward price relationship looks to be establishing itself based on associated gas volumes.
The rally in Henry Hub prices since March is more impressive against a backdrop of rising shut-in volumes of US LNG exports. Aggregate feedgas volumes into LNG export terminals have fallen from above 9 bcfd in Mar-20 to under 4 bcfd in Jun-20.
A key question going forward is how quickly shale well drilling and associated gas volumes will recover if oil prices continue to rise. This recovery may be impacted by a much tougher oil & gas capital raising environment post-Covid that supports prices in both markets.
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