The meteoric production rise of the Marcellus and Utica Shales has shifted the playing field of the natural gas market and changed the United States energy landscape. While the recent commodity swing has finally forced U.S. oil production to least plateau (for the time being), the Appalachia has delivered consistent year-over-year growth ever since horizontal drilling truly took off in 2008. The Marcellus/Utica now accounts for 40% of gas production from the seven major U.S. regions and is projected to continue to grow.
The emergence of the Appalachia has reduced trading volumes at the Henry Hub landing spot by 70% in the last five years, leading to editorials pondering if Marcellus production would unseat the traditional go-to spot price holder. Pennsylvania alone increased its dry gas production to 8.8 Bcf/d in 2013, compared to 0.74 Bcf/d in 2009. In the same time frame, dry gas production from the Federal Offshore Gulf of Mexico has been cut in half to 3.4 Bcf/d. The dramatic swing has resulted in a handful of editorials pointing out the change in power.
“How important is the Henry Hub as a price proxy for the Eastern US? My thinking is that, before long, it won’t be very important at all,” Teri Viswanath, director of commodity strategy for natural gas at BNP Paribas, told Reuters in September.
A December 2014 article by Forbes titled R.I.P. Henry Hub? Marcellus Shale Shifts Geography of Natural Gas Markets, said: “The rise of a new producing region combined with production declines in traditional areas of production is shifting historical flow patterns. It is only a matter of time before the market follows.”
Down but not Out
Patrick Rau, Director of Strategy and Research for Natural Gas Intelligence, acknowledged the radical shift in production areas, but says the chances of the Appalachia overtaking the Henry Hub are “virtually nil.” In a webcast on April 7, 2015, titled “Will the Marcellus/Utica Overtake the Henry Hub?” Rau pointed to several factors that the dominant landing price has been and will continue to set the bar on gas prices. He points out that Henry Hub prices have remained consistent despite the flow of production from the Appalachia, and the only impact that those volumes have had on other spot prices is added volatility – the majority of which have pushed into other markets in the northeast and in Chicago.
“Appalachia is not the national pricing point,” he said. “It still has only 20% of production and is also on the lower end of pricing. I believe it still serves as a reasonable proxy for the area.”
Rau also said the Marcellus/Utica will not be able to sustain the rapid level of growth, particularly due to the headwinds from the new commodity environment. Natural gas production has also outpaced demand in recent years, with respective increases of 4.4% and 2.0%, which led to the gas price slide in the first place.
The growth of the Appalachia is remarkable, but the eventual production slowdown and competition from other basins will make the Henry Hub a standout price point once again. The Haynesville, in particular, will be a region that Rau expects to support future growth at the Hub.
“The Haynesville has lots of undeveloped wells, it’s dry gas so processing is minimal, there’s plenty of takeaway capacity and potential for recompletions,” he explains, adding that the proximity of the play to the Gulf of Mexico and several liquefied natural gas (LNG) terminals makes it even more attractive. “By the end of 2020 we believe LNG exports could account for 10% of all U.S. demand.”
Rau reminded the audience that there are already too many physical and financial contracts tied to the Henry Hub, and the landing price could become the pricing record for international trade once LNG exports turn online.
Wei Chien, Founder of Observ Commodities, closed the webinar with the old phrase of: “It is not the strongest of the species that survives, nor the most intelligent, it is the one that is most adaptive to change.”
Henry Hub certainly appears to have the versatility and reliability to remain the key landing spot, but don’t believe the Appalachia is set up for a decline. Several pipeline projects are scheduled to come online in late 2016, alleviating the regional spread that has traditionally kept Appalachia prices as much as 25% below HH prices.
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