Tables Turning for Natural Gas

 | Jun 03, 2013 | 5:36 PM EDT
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When it comes to natural gas, there is never a win-win. The economy, consumers and exporters win big when natural prices are low. They lose when natural prices are high. The higher the price, the more they lose. However, higher prices boost margins for gas producers such as Chesapeake Energy (CHK) and Southwestern Energy (SWN). Higher gas prices also help most power producers that use coal, nuclear, wind and solar. The exceptions are power producers such as Calpine (CPN), which rely on natural gas as fuel.

For almost everyone, prices for natural gas are critical. As they change, winners and losers switch places.

The critical number for most wholesale and retail consumers is the delivered price of natural gas. For the last several months, residential consumers have been paying more than $9 per million cubic feet (MMcf), commercial consumers have been paying more than $7.75 per MMcf, and industrial consumers have been paying more than $4.40 per MMcf.

The big consumers are wholesale consumers, which are mainly local distribution companies and utilities. Local distribution companies, or gas utilities, take their supplies from interstate pipelines, and they pay wholesale prices, which vary by geography.

Most electric utilities also have direct access to pipelines, and they negotiate separate prices for delivered fuel. Marginal generators must take spot prices, while base-loaded units can go long and book lower prices.

For the past four years, electric utilities have paid an average price of $4.63 per MMcf, while gas utilities have been paying about $5.52 per MMcf. On average, electric utilities have been paying 15% less than gas utilities:

Nat Gas Wholesale Prices

Electric utilities use most of their natural gas off season, in the summertime. Their average demand in the wintertime declines 40% to 50%, depending on weather.

Even if generating utilities do not consume a drop of natural gas, delivered prices for natural gas are critical. As gas prices move upward, margins change, and generating utilities will idle some plants and dispatch others. The chart illustrates the dynamic:

Power Production Costs vs. Nat Gas Prices

The chart illustrates several points. As the delivered price of natural gas migrates above $4.50 per MMcf, natural gas turbines are no longer cost leaders, and these generating utilities become marginal suppliers. As about $4.50, the most efficient gas turbines (red line) become much most costly than nuclear (blue line) and somewhat more costly than coal (black line). Meanwhile, standard gas turbines (the upper line) are economic only when demand are power prices are high.

At $4.50 per MMcf and higher, gas turbines, no matter how efficient, lose their cost leadership position. When gas prices are higher, nuclear and coal units regain their cost leadership position for the grid's base load.

While the economy might suffer, higher natural gas prices help companies such as Exelon (EXC), Entergy (ETR) and NRG Energy (NRG). However, for Exelon, Entergy and NRG Energy to fully recover, they need the market to reward them with very high gas prices and the continuous dispatch of relatively inefficient gas turbines.

That may happen this summer. As the curves suggest, wholesale natural gas prices in 2013 are very different from what they were 2012. It appears that the summer of 2013 will provide most power producers with higher revenue and margins.

The biggest winner will be wind, solar and energy efficiency. They earn the same market-clearing price for energy as does nuclear, coal and natural gas. As natural gas prices increase and market-clearing prices for power increase, margins for almost all power producers increase. Should natural gas prices remain elevated, renewable energy companies like NextEra Energy (NEE) should earn higher revenue and gross margins from their existing wind and solar facilities.

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