Gas Price Volatility: Of Winters Past and Futures Market
EL NIÑO HAS STRUCK, WITH NO END IN SIGHT.
Consider that Aquila Energy, the marketing arm of UtiliCorp United, has announced a new financial derivative, known as GuaranteedForecast,sm to hedge the weather against forecasts by the National Weather Service. The new product will pay holders a guaranteed amount if the mercury strays, and Aquila touts its thermometer hedge for any of 170 U.S. cities (em be it Spokane, El Paso, Chicago or New York. Why talk about the weather when you can invest in it, in true '90s fashion?
For this heating season, however, it may be too late.
The American Gas Association released figures recently indicating that this year's winter so far (weeks ending Oct. 4, 1997, through Feb. 7) has been about 6.8 percent warmer than normal and 5.1 percent warmer than 1996-97. The warmer trend appeared most pronounced in January 1998, which came in nearly 20 percent warmer than normal and 18.3 percent warmer than 1996-97, according to the A.G.A.
Meanwhile, in the Feb. 17 issue of its Natural Gas Weekly Market Update, the U.S. Energy Information Administration said most forecasters were calling for more of the same, with implications for gas prices: "The lack of any substantial weather-related demand for natural gas so far this winter has resulted in a more than 33-percent drop in gas prices on both the spot and futures markets since mid-November."
Prior EIA research indicates that if average heating season temperatures rise 1.43 degrees Fahrenheit above normal, the drop in demand for natural gas will outweigh the increase that occurs each year to supply economic growth, thus forcing prices down. %n1%n In its Feb. 17 update, the EIA predicted gas storage levels "well ahead of last year," if the mild temperatures continue.
El Niño, it appears, has spared no one. Out west, Southern California Gas Co. lowered its procurement charge for retail core subscription to $2.0658 per MMBtu, effective Feb. 6, down from $2.3036 for January, $2.4684 in December, and $3.3872 for November 1997.
Nevertheless, while gas prices may be down, gas price volatility remains high.
On Feb. 9, for example, just a week before it was reporting that 33-percent price drop, the EIA notes an unexpected rally in gas futures prices:"[M]ost industry observers were surprised by the upward trend in both spot and March futures contract prices. The Henry Hub average spot price gained about 25 cents over the week ending Friday, Feb. 6, while the March futures contract gained almost 30 cents from the closing price on its first day of trading as the near-month contract expired on Jan. 29." %n2%n
John Herbert, previously on staff at the EIA and an expert on gas storage, pricing and risk management (email: firstname.lastname@example.org), explains the paradox: "Gas volatility doesn't go away, despite these new markets and transparent pricing.
"A key factor is storage relative to demand. In general, this winter's gas market has proven to be much different than a year ago, especially at the beginning of the season. That had a lot to do with the weather, and the industry appeared