Appalachia gas production slowdown lifts cash basis as summer spreads lag

The slowdown in Appalachian gas production this spring is already easing pressure on cash basis prices. This summer though, traders are betting on wider spreads there as Henry Hub gas climbs back above $2.

Over the past eight weeks, gas production from the Marcellus and Utica shale has fallen sharply. In April, combined in-basin production has averaged just over 33.5 Bcf/d – down from a near record-high average around 35.7 Bcf/d as recently as February, data from S&P Global Commodity Insights showed.

The precipitous slowdown comes on the heels of a tough winter for producers. In mid-February, cash prices at Appalachia's benchmark hub, Eastern Gas South, briefly drifted below $1.20/MMBtu on several trading days and averaged less than $1.35 during the full month, putting pressure on producer margins.

In response, Appalachian producer EQT last month said it would lower gross output by 1 Bcf/d in one of the single largest recently announced cuts to US gas production. EQT's announcement came just two weeks after Chesapeake Energy announced its own cut of a similar magnitude with a commitment to lower capital spending by 20% and reduce annual output by about 15%.

With a handful of other large dry gas producers announcing similar measures, production in both Appalachia and the Haynesville has fallen sharply, easing pressure on prices – especially in Appalachia.

Prices

In April, spot prices at Eastern Gas South have edged up to an average $1.50/MMBtu. Although relatively low by historical standards, the month-to-date cash price is already up by nearly 14% compared with the March average and is now trailing the US benchmark Henry Hub by about 18 cents. In February, Eastern Gas South was trading at an average 40 cents discount to Henry Hub, S&P Global data showed.

The relatively narrow basis price spread at Eastern Gas South could be short-lived though.

In the forwards and futures markets, traders are betting on significant price appreciation at the Henry Hub by this summer On the NYMEX, bearish momentum during the final weeks of winter appears to have reversed course following expiration of the April contract.

"Natural gas is trying to bottom," said Phil Flynn, senior account executive at Price Futures Group, in a recent telephone interview. Flynn noted an increasing interest among traders to "catch the falling knife" and find the gas market's bottom before the summer cooling season begins.

Amid rising faith in the summer market, the May gas futures contract has rebounded from around $1.70 and continues to edge closer to the psychological $2 level. On April 3, prompt prices were nearly flat around $1.85/MMBtu. Mid-summer gas prices, meanwhile, have also begun rising again with the July contract now trading around $2.40 and August around $2.50, data from S&P Global showed.

Summer outlook

As confidence in the NYMEX Henry Hub gas market builds, traders active in Appalachia are taking a more cautious approach. At locations like Eastern Gas South, the summer gas contracts are also on the rise recently – although most traders are anticipating smaller gains there vis-à-vis the Henry Hub.

At Eastern Gas, outright forward prices for July and August are now trading around $1.80/MMBtu – up from lows around $1.40 as recently as February. Although summer basis spreads have also narrowed by about 30 cents, July continues to trade around 65 cents behind Henry Hub and August at nearly 75 cent behind Henry Hub. Although relatively lower summer demand typically keeps basis spreads in Appalachian lower during the cooling season than in the heating season, the current spread between cash and summer basis prices is wider than usual this spring.

At least two potentially bearish factors could be adding to uncertainty for forwards traders. First, its unclear when, or how soon, curtailed gas production by operators like EQT and Chesapeake could be brought back online. Additional uncertainty could also be related another possible delay to the startup of Mountain Valley Pipeline – a 2 Bcf/d interstate transmission line that promises additional egress capacity and a potential uplift for gas prices in Appalachia.