We expect gas prices to be range bound this
summer, but with an upside skew. Between now and
Jul, we expect gas prices to trade higher as 1) excess
inventories are pared down, and 2) demand rises
seasonally. In our base case,
we see prices averaging
$3.65 and $3.70, in 2Q and 3Q, respectively, and trading
as high as ~$3.90 by 3Q, assuming 10-Y normal
weather. With Jul-13 and Aug-13 contracts trading at
~$3.65, much of this upside appears priced in. Even so,
we would note that the bias is to the upside. In our bull
case (+10% CDD Apr-Oct), prices could average $4 or
higher in 3Q13 before facing a supply response or
producer selling. By comparison, our bear case shows
prices averaging above $3.50 throughout the summer.
Weather has turned more bullish setting up a much
better price outlook relative to 2012. Based on the
latest weather forecast, we now estimate Feb was only
2.4% warmer than normal (vs. 4.8% previously) while
Mar is trending 1.2% colder than normal (vs. 2.5%
warmer previously). We estimate the colder weather
increased ~76 bcf of demand vs. our earlier
assumptions, removing additional downside risk for
prices. We see end-Mar storage below 1.9 Tcf, ~580 bcf
lower YoY, reducing the need for CTG switching
economics and setting up for higher prices this summer.
Putting in a floor: we believe prices bottomed in
mid-Feb. In our Jan-15 NG note, we wrote that lower
gas prices were needed in 1Q13 to work off excess
inventory from mild weather. Subsequently, prices sold
off to as low as ~$3.13/mmBtu in mid-Feb, incentivizing
greater gas burn, before rebounding modestly.
Looking
forward, we struggle to see prices averaging below
$3.50/mmBtu, barring a significant supply side surprise,
even in a colder weather scenario. Coal-to-gas switching, potential supply response
limit upside potential. At prices below ~$4.30/mmBtu,
we will continue to see CTG switching in SERC and PJM
regions. However, with much warmer summer weather,
prices could reach $4+/mmBtu as weather-related
demand replaces price-sensitive power demand in other
regions. Above $4, the potential for a supply response
and producer selling should put a cap on prices.