Friday, June 12, 2009

Steep Contango Implies Higher Gas Prices By Year-End

There was a good article on MarketWatch.com this week about the steep contango that continues to exist in the natural gas commodities market. Contango is a state where the price of a commodity for future delivery is higher than that for nearby contracts. Right now, near-term contracts sell at $3.85/MMBtu (as of 2 PM CDT today), while contracts for delivery at the end of 2009 and into 2010 are selling for more than $6/MMBtu. That difference is considered a steep contango - about a 60% higher price. This situation implies that natural gas prices are expected to increase by the end of the year, roughly to the $6-$7 range.

That's good news. The bad news is that the continued high supply level and the threat from imported LNG, which is putting downward pressure on near-term gas prices. Many analysts expect the price to drop below $3/MMBtu (yesterday's Henry Hub spot price was $3.51/MMBtu).

For companies that have strongly curtailed drilling efforts waiting for higher prices, their performance will lag the (expected) increase in prices as they will have to ramp-up their drilling efforts in a hurry along with lots of other people. This should lead to delays, while companies that kept spending during the slide will be in a much better position, assuming they can hold out until prices rise.

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