Natural Gas Prices Decouple from Crude Oil: A Historical Shift

Natural gas prices have managed to maintain their relative firmness despite a 25% drop in oil prices over the past year, leading to a decoupling of the two energy markets. This shift is a significant development in the energy industry, with many experts predicting that gas prices may finally be able to consider their own level relative to fuel oil.

Key Takeaways:

• The price ratio of oil to natural gas has dropped from 9:1 in May 1997 to 7.5:1 in May 1998, despite a 25% drop in oil prices.
• The Gulf War in 1990-91 demonstrated the opposite end of the extreme, with a price ratio of 20:1 when the economic value of oil to gas was more than three times higher than the historical average.
• Experts like John E. Olson, natural gas analyst for Merrill Lynch & Co., believe that gas may be free to consider its own level relative to fuel oil, while Tom Robinson, senior director of Cambridge Energy Research Associates, questions whether oil and gas prices were ever truly coupled.
• Prudential Securities Inc. natural gas analyst M. Carol Coale estimates that 1 Bcfd of a 60 Bcfd North American market has switched to fuel oil, but this volume has been offset by increasing demand from electricity generators.
• Environmental regulations and refinery upgrades have reduced the availability of residual fuel oil, making gas a more attractive option and supporting prices.
• Some electricity generators, like Houston Lighting & Power Co., have switched to gas permanently due to environmental regulations and state penalties on oil burning.
• Experts predict that decoupling creates the evil twins of conservation and fuel switching, with conservation being a more significant concern due to its potential to limit market growth.
• The market may also face a shortfall in deliverability due to a lack of reserve reserve-replacement studies, leading to a potential limit on market growth.

Statistics:

• The New York Mercantile Exchange (Nymex) price for light, sweet crude averaged about $20.50/bbl in May 1997, while Nymex gas traded at about $2.25/MMBtu.
• The price ratio of oil to natural gas was 9:1 in May 1997 and dropped to 7.5:1 in May 1998.
• Gas prices stayed relatively firm despite a 25% drop in oil prices over the past year.
• The Gulf War in 1990-91 saw a price ratio of 20:1 when the economic value of oil to gas was more than three times higher than the historical average.
• Refinery upgrades have reduced the availability of residual fuel oil, making gas a more attractive option and supporting prices.

Sources:

• John E. Olson, natural gas analyst for Merrill Lynch & Co.
• Tom Robinson, senior director of Cambridge Energy Research Associates
• M. Carol Coale, Prudential Securities Inc. natural gas analyst
• Carol B. Freedenthal, principal in the Houston consulting firm Jofree Corp.
• L.G. Brackeen, Vice President of fuels procurement and power dispatch at Houston Lighting & Power Co.
• "TOD, 6-9-98, p.3"
• Jofree Corp.