Outlook for Natural Gas Demand for 2010-2011 Winter Energy Ventures Analysis, Inc. (EVA) Overview Natural gas demand this winter is projected to be about 295 BCF, or 2.5 percent, above demand levels recorded last winter, as noted in Exhibit 1. There are a series of offsetting factors causing this net increase. While weather always is a factor in any winter outlook, the increase in winter gas demand is the result of two non-weather factors both of which are difficult to predict. Within the electric sector coal-to-gas fuel switching, which occurs because of low gas prices, likely will exist throughout the winter and, as a result, make natural gas demand within the power sector higher than normally would be expected. In addition, within the industrial sector, while gas demand for most of the year has been below pre-recession levels, there will be some recovery from the recession affected consumption levels registered last winter. Lastly, with respect to the outlook for the weather this winter, it currently is projected to be a little warmer than last winter, as last winter was 0.6 percent colder than normal, while this winter is projected to be 0.4 percent warmer than normal. Exhibit 1 provides both cumulative demand for the winter season in BCF and average daily demand for the summer period in BCFD. The latter is a common unit in the industry and will be the primary focus of this report, because of the ease of comparing BCFD to other industry statistics. Exhibit 1. Outlook For Winter Gas Demand (1) Coming Winter Last Winter (2010/2011) (2009/2010) Change Average Average Average Sector BCF BCFD BCF BCFD BCF BCFD Residential 3,524 23.3 3,529 23.4 (5) (0.0) Commercial 1,972 13.1 2,003 13.3 (31) (0.2) Industrial 3,067 20.3 2,919 19.3 148 1.0 Electric 2,612 17.3 2,453 16.2 159 1.0 Lease, Plant and Pipeline Fuel 877 5.8 853 5.7 24 0.1 Total 12,052 79.8 11,757 77.9 295 1.9 (1) Figures may not add due to rounding. While the severity of winter weather always is a point of uncertainty for winter gas demand outlook, for the forthcoming winter the key points of uncertainty will be how much coal-to-gas fuel switching will occur during the winter season, and the rate of recovery for the economy. Based upon current NYMEX future gas prices, coal-to-gas fuel switching will occur throughout the winter season. However, an unexpected increase in gas prices in response to cold winter weather could reduce the level of coal-to-gas fuel switching. In addition, the continued improvement in industrial sector gas demand is dependent heavily upon the economic outlook 1
and at present there is a considerable range in the estimates provided by leading economic forecasters. As a result, there is some uncertainty over the projections for industrial sector gas demand this winter. Lastly, Exhibit 2 compares and contrasts the current winter outlook with actual results over the last decade. Exhibit 2. Average Winter Demand 85 (BCFD) Warm Weather Forecasted 80 75 73.3 78.5 71.4 77.3 74.3 73.6 Cold Weather Normal Weather 73.2 77.2 75.6 77.9 79.8 70 69.0 65 60 Outlook For Demand Residential And Commercial Sectors Historically, the most significant factor affecting gas demand within the residential and commercial sectors is the severity of the winter weather. While this remains true for the forthcoming winter, an additional factor exists for the commercial sector for the outlook for gas demand within this sector this winter, namely the pace of the recovery for the economy and its net impact on gas demand within the sector. While the commercial sector has been impacted less severely than the industrial sector by the recent recession, the change in economic activity and the current recovery are factors in the overall outlook for gas consumption within the sector. In order to illustrate the historical swings that have occurred in winter gas demand for these two sectors because of changes in winter weather from one season to the next, Exhibit 3 presents a 10 year summary of winter gas demand for the two sectors, as well as the outlook for the forthcoming winter. As illustrated, significant changes in the severity of the winter weather from one season to the next can cause gas demand changes for the two sectors from one winter to the next of about 950 BCF, or 16 percent, which over the 151 days of winter equates to about a 6.3 BCFD swing in gas demand. 2
Exhibit 3. Comparison Of Winter Gas Demand For Residential And Commercial Sectors For the forthcoming winter the weather is expected to be close to normal (i.e., 0.4 percent warmer) and about one percent warmer than last winter. 1 The net effect is that gas demand for the two sectors likely will be about 36 BCF, or 0.7 percent, less than last winter. Within the residential sector the three basic drivers of winter gas demand are (1) the severity of winter weather, (2) customer growth and (3) conservation. Concerning the latter two factors, over the recent past the underlying growth due to the annual increases in the number of residential customers has been offset partially by continuing conservation (i.e. primarily priceinduced conservation) within the sectors. For the most part, this conservation has occurred as a result of consumer responses to high gas prices prior to 2009 (i.e., behavioral), although there are indications of some structural conservation, as a result of the installation of additional insulation and remodeling of homes that includes installing double and triple pane windows. While this structural conservation is permanent, it is more difficult to judge the degree of permanence for behavioral conservation (e.g., wearing a sweater and adjusting the heating thermostat to a lower level). However, at present even though gas prices have declined, it appears that the austere practices adopted during the period of high gas prices have been carried over to the current period, because of the general adverse impact of the recent recession. With respect to the commercial sector gas demand, the two key drivers are (1) the severity of the winter weather and (2) the impact of the economic recovery on gas demand within the sector. As illustrated in Exhibit 4, commercial sector gas demand, for the most part, has recovered from the downturn associated with the Great Recession and should begin to increase slowly as the economy recovers. 1 The HDD for last winter were 3,609, while the current projections for the forthcoming winter are 3,572. This is a one percent difference. 3
With respect to the regional nature of gas demand for these two sectors, Exhibit 5 highlights the gas demand for the residential and commercial sectors by census region for the winter season. Exhibit 4. Year-Over-Year Changes In 2010 Commercial Sector Gas Consumption 2.0 (BCFD) 1.5 1.0 0.5 0.0 (0.5) (1.0) (1.5) Exhibit 5. Residential And Commercial Sector Gas Demand By Region Winter 2009/2010 West 18% South Atlantic 11% Midwest 36% South 13% Northeast 22% Demand = 36.6 BCFD Note: Winter=Nov 2009 through Mar 2010. Source: U.S. DOE, Energy Information Adminstration. 4
Industrial Sector The key driver in the outlook for winter gas demand for the industrial sector is the pace of the recovery from the current economic downturn. As illustrated in Exhibit 6, the industrial sector has been the sector most adversely affected by the Great Recession. As noted, the decline in industrial gas demand started in the fourth quarter of 2008 and reached a low point in the first quarter of 2009. However, since about mid-2009 there has been a slow and somewhat erratic recovery in industrial sector gas demand to pre-recession levels. Finally in June assuming no future revisions in the data industrial sector gas demand reached pre-recession levels. The assumption going forward is that there will be a very slow increase in consumption for the sector as the economy continues to recover, with the net result being that this winter s natural gas demand will be well above last winter s severely depressed consumption levels (i.e., an increase of about 1.0 BCFD, or 5.1 percent). As a result, this winter s gas demand for the sector should be on a par with pre-recession levels (i.e., 2007/2008). Exhibit 6. Year-Over-Year Changes In Gas Demand For The Industrial Sector Changes in Gas Demand for the Industrial Sector From Pre-Recession Levels 0.5 - (0.5) (1.0) (1.5) (BCFD) (0.03) (0.8) (1.3) 0.2 (1.1) (1.2) (0.6) (1.2) (0.6) (1.1) (0.6) (0.9) (1.1) (0.4) 0.0 (2.0) (2.5) (3.0) (1.6) (1.8) (2.0) (2.2) (2.4) (2.5) (2.6) (2.7) Source: EIA. Note: October through December compares 2008 to 2009, while January through June compares 2010 to 2009. However, there is still considerable uncertainty for this outlook in industrial sector gas demand, as there is not unanimity among economic forecasters about the outlook for the economy. This lack of concurrence is highlighted in Exhibit 7, which summarizes a Wall Street Journal survey of major economists. As illustrated, the range in viewpoints for economic growth for the next 12 months is from a -0.8 to a 4.8 percent increase in GDP, with the mean being 2.7 percent. 5
Exhibit 7. U.S. Real GDP Outlook Comparison 14.30 14.20 14.10 14.00 13.90 13.80 13.70 13.60 13.50 13.40 13.30 13.20 13.10 13.00 12.90 12.80 12.70 12.60 12.50 (Trillion 2005$) WSJ Survey Range Actual WSJ Survey Mean Q1-2005 Q2-2005 Q3-2005 Q4-2005 Q1-2006 Q2-2006 Q3-2006 Q4-2006 Q1-2007 Q2-2007 Q3-2007 Q4-2007 Q1-2008 Q2-2008 Q3-2008 Q4-2008 Q1-2009 Q2-2009 Q3-2009 Q4-2009 Q1-2010 Q2-2010 Q3-2010 Q4-2010 Q1-2011 Q2-2011 Q3-2011 Q4-2011 Source: BEA, WSJ, Economy.com. With respect to the leading indicators for industrial activity, Exhibit 8 presents the industrial production indices for the six energy intensive industries that account for about 65 percent of industrial sector gas demand. As illustrated, the production indices for all six of these key industries were affected adversely by the Great Recession, with some being more affected than others. In addition, each of these industries has recovered to varying degrees from their low point. However, more recently for most of these industries there has been a flattening out, or even a small decline (e.g., chemicals), in the production indices for these critical industries. This latter phenomenon is consistent with the recent signs that the economic recovery is slowing and is a key factor behind the outlook that future growth in industrial sector gas demand will be modest. Lastly, Exhibit 9 compares and contrasts the current outlook for industrial sector gas demand with historical results for the last decade. As illustrated, demand for the forthcoming winter, because of the economic recovery to date, will be above the depressed consumption levels that occurred over the last two years. Basically, projected winter industrial sector demand is on a par with what occurred during the winter of 2007/2008. Electric Sector There are two primary drivers behind the outlook for this winter s electric sector gas demand, namely (1) the projected growth in overall electricity sales and (2) the anticipated level of coalto-gas fuel switching, with the latter being the most significant. 6
Exhibit 8. Industries Industrial Production Indices For The Six Key Energy Intensive 7
Exhibit 9. Winter Industrial Sector Gas Demand 30 25 (BCFD) Year-to-Date Demand 2009 2010 % Chg 16.9 18.6 10.0% History Forecast 20 15 10 24.0 22.6 21.5 21.5 21.2 20.7 18.8 19.5 20.2 18.1 19.3 20.3 5 0 Estimated Demand Reduction due to Hurricanes Gas Demand Source: EIA and EVA, Inc. Electricity Sales Concerning the former, which is related to overall economic growth, Exhibit 10 compares and contrasts electricity sales for this year with those for the last two years. Because of the impact of the Great Recession, electricity sales for all of 2009 declined 2.8 percent from 2008 results. While there has been a recovery in electricity sales in 2010, it is difficult to precisely quantify the amount of this increase that was due to the economic recovery, because the summer weather was so warm this year, which of and by itself causes an increase in electricity sales. 2 On a year-todate basis 2010 electricity sales were 4.3 percent above last year and basically on a par with the results for 2007, which also has a warm summer. Even though the impact of summer heat on electricity sales will disappear during the winter season, total electricity sales for winter are expected to be marginally above that recorded for last winter. Coal-to-Gas Fuel Switching With respect to the second primary factor, namely coal-to-gas fuel switching, 3 it is expected to be the dominant factor in the expected increases in the sector s gas consumption this winter. 2 During the heart of the summer weather the cooling degree days (CDD) for 2010 were 19 percent above normal. 3 Normally coal-fired generation is less expensive than gas-fired generation, when measured on the basis of variable costs, which is the metric for economic dispatch in the power industry. As a result, coal-fired generation usually dispatches ahead of gas-fired generation. However, during periods of very low gas prices gas-fired generation can be less expensive than coal-fired generation at least in some regions and, as a result, dispatch ahead of coal-fired generation. When this occurs it is referred to as coal-to-gas fuel switching. Historically, coal-to-gas fuel switching has occurred only three times (i.e., February 1992, August/September 2004 and September/October 2006), but never on a sustained basis, as the prior three events each lasted only a few weeks. The fuel switching event that started in 8
Exhibit 10. Total Weekly Electricity Output (48 States) 100,000 95,000 2008 2010 2009 90,000 85,000 GWh 80,000 75,000 70,000 65,000 60,000 Jan Feb Mar Apr May Jun Aug Sep Oct Nov Dec Source: EEI Exhibit 11 summarizes the level of coal-to-gas fuel switching that has occurred over the last 22 months. While fuel switching during the first quarter of this year was less than what occurred in the same quarter a year ago, because of high gas prices at the beginning of the year, coal-to-gas fuel switching is expected to increase significantly in the second half of the year and, in particular, during the winter season. The key driver behind the latter phenomenon is the current outlook for gas prices for this winter, which is for gas prices to be about nine percent below those prices recorded for last winter. 4 In addition, coal prices have increased over this period and likely will remain higher. This is somewhat of an anomaly for the winter season because gas prices usually spike during the winter season. However, because of the general consensus that excess gas supply has emerged and will persist over the winter season, gas prices this winter season will be at a nine year low according to the current NYMEX. Exhibit 12 summarizes the net impact on the electric sector for the current NYMEX outlook for natural gas and coal prices. As illustrated by the dotted line, gas-fired generation is projected to be below the cost of coal-fired generation throughout the winter season, whereas the opposite was true for much of the prior winter. Furthermore, based upon the current set of NYMEX prices, this tension between the two fuels likely will exist throughout 2011. August 2008 is the first ever sustained coal-to-gas fuel switching event that has occurred in the U.S. electric power industry. 4 Based upon the current NYMEX gas future prices. 9
Exhibit 11. Coal-To-Gas Fuel Switching TOTAL: Monthly Coal Generation Displaced by Natural Gas (BCFD) BCFD 3.25 3.00 2.75 2.50 2.25 2.00 1.75 1.50 1.25 1.00 0.75 0.50 0.25 - Western U.S. Eastern U.S. Henry Hub Gas Price 0.8 0.7 0.3 0.4 0.3 0.3 2.1 1.8 1.8 1.9 1.5 1.4 1.2 2.5 1.1 1.8 1.0 0.2 1.2 1.1 1.2 $/MMBTU $13.00 $12.00 $11.00 $10.00 2.0 $9.00 $8.00 $7.00 $6.00 $5.00 $4.00 $3.00 $2.00 $1.00 $0.00 JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC JAN FEB MAR APR MAY JUN JUL AUG SEP OCT NOV DEC JAN FEB MAR APR MAY 2008 2009 2010 Exhibit 12. Coal vs. Gas Prices 2008 to 2011 10
Comparisons Exhibit 13 compares and contrasts the outlook for electric sector gas demand for this winter with that for a series of winters in the recent past. As illustrated, electric sector gas demand this winter will be about 1.1 BCFD, or 6.5 percent, higher than last year, primarily because of the additional level of coal-to-gas fuel switching this winter. Furthermore, the full impact of fuel switching on this winter s gas demand is somewhat muted in this comparison with the prior winter, since the results for the winter of 2009/2010 already included some coal-to-gas fuel switching. For example, when comparing the forthcoming winter outlook with actual results for the winter of 2008/2009, the net increase is about 1.6 BCFD, or 10 percent. Exhibit 13. Winter Electric Sector Gas Demand 20.0 18.0 16.0 (BCFD) History 15.6 15.7 16.2 Forecast 17.3 14.0 12.0 11.6 12.3 11.9 11.8 12.4 12.3 13.9 10.0 8.0 6.0 4.0 2.0 0.0 2000/01 2001/02 2002/03 2003/04 2004/05 2005/06 2006/07 2007/08 2008/09 2009/10 2010/11 As a point of perspective, Exhibit 14 provides a breakdown of winter electric sector gas consumption by region. Lastly, in order to provide some perspective concerning the longer term outlook for the power industry and the position of gas within that industry, Exhibit 15 compares and contrasts both recent and expected new capacity additions within the electric industry for natural gas with the new capacity additions for its primary competition, namely coal and wind. As illustrated, over the five-year period highlighted in Exhibit 15, gas-fired and wind-fired capacity additions represent the dominant form of new capacity additions within the power industry, with each representing about 41 to 43 percent of the total five-year capacity additions. Coal-fired additions, while reaching near-term peaks in capacity additions in 2010 and 2012, only represent about 16 percent of the five-year capacity additions. 11
Exhibit 14. Electric Power Sector Gas Demand By Region Winter 2009/2010 South 33% South Atlantic 18% West 27% Northeast 17% Midwest 5% Demand = 16.2 BCFD Note: Winter is Nov 2009 through Mar 2010. Source: U.S. DOE, Energy Information Adminstration. Exhibit 15. New U.S. Generation Capacity 2010 2010 (MW) 2008 2009 Completed* Full Year 2011 2012 Coal-fired 1,429 3,014 2,180 6,659 2,410 4,350 Wind-fired (1) 8,653 11,833 664 7,312 9,000 9,000 Gas combined cycle 3,742 3,404 610 4,997 6,024 11,890 Gas peaking 3,640 3,681 1,271 2,235 2,557 4,050 Total gas-fired 7,432 8,085 1,882 7,232 8,581 15,940 Grand Total 17,514 22,932 4,726 21,203 19,991 29,290 * As of Summer 2010. (1) Wind capacity for 2011 and 2012 estimated, as proposed projects significantly exceed these estimates. Conclusions While for most of the winter periods the number one area of uncertainty with respect to gas demand is the severity of the winter weather, for the forthcoming winter the primary elements of uncertainty are (1) the level of coal-to-gas fuel switching, which in turn is a function of both gas and coal prices, and (2) the pace of economic recovery and its potential impact on gas demand in the commercial, industrial and electric sectors. Exhibit 16 compares and contrasts the current outlook for winter gas demand with that for a series of winters over the recent past. As illustrated, gas demand this winter is expected to be about 1.9 BCFD, or 2.5 percent, greater than that for the prior winter. 12
Exhibit 16. Average Winter Demand 85 (BCFD) Warm Weather Forecasted 80 75 73.3 78.5 71.4 77.3 74.3 73.6 Cold Weather Normal Weather 73.2 77.2 75.6 77.9 79.8 70 69.0 65 60 13
APPENDIX 1
Exhibit A-1. Natural Gas Consumption (BCF) 1
Exhibit A-2. Industrial Production Growth Rates 2
Exhibit A-3. Cumulative U.S. Capacity By Technology, 1998-2012 3
Exhibit A-4. Annual Additions Of Gas-Fired Capacity 1986-2011 4
Exhibit A-5. Performance Characteristics Of Natural Gas Combined Cycle Units By Region Capacity Factor % Heat Rate (BTU/kW) 5
Exhibit A-6. Total Primary Gas Demand By Sector And Time Of Year 6
Exhibit A-7. Electric Power Sector Gas Demand By Region And Time Of Year 7
Exhibit A-8. U.S. Census Regions 8
Exhibit A-9. Relevant Data 9