When natural gas prices go down, drillers go out of business. Here’s what we know

Rapid fall in price signals promise, though hard to capture because they aren’t backed by evidence

Investors must be cheering news of plunging natural gas prices, which fell 6.3% in just one day over the past week.

That was just the latest salvo in a prolonged price war by major US producers. The price slump showed what some analysts are calling the end of the shale gas “supercycle” that put annual profits into a spiraling financial tailspin in 2014 and 2015.

For families struggling to pay sky-high prices for heating fuel, it is also a sign that production costs in the US have finally come down – a partial result of a growing population and improvement in the quality of drilling techniques that make gas easier to extract and more cleanly burn.

The costs to drill for gas have risen sharply since the mid-2000s, as major suppliers pushed as much supply as possible into the market at lower prices. Now, with natural gas prices at levels not seen since 2009, the shale producers are simply not selling enough to their own customers to break even.

Should this trend hold, it might finally mean that big companies won’t take to the markets – or other new ways to finance gas production – at break-even prices. At a price below the cost of production, it might offer hope for consumers.

That last caveat is difficult to take in. Crude oil prices are still at $73 per barrel. Even a 60% decline in natural gas prices would only mean that a family of four spent $100 per month less at the pump – at least if prices continued at the present average.

“It doesn’t translate into much,” said Michael Levi, a senior fellow at the Council on Foreign Relations. But it is nonetheless an indication of companies’ commitment to sustainable profits – even if they don’t yield to the shareholders’ call to pump out as much gas as possible.

“They don’t feel that any loss of revenue, or any profit, is more important to their businesses than the long-term sustainability of their businesses,” Levi said.

Investors will also have to find a way to safely dispose of reserves that now fetch a significantly lower price than they once did, said Jeffrey Rubin, founder of hedge fund consultancy Eckhart Group. “This is going to fundamentally change the practice of buying and selling these types of assets,” he said.

So far, the price drop has driven many producers out of business, though some suppliers still thrive in the market.

Gas prices reached an all-time high in the summer of 2015, and soon started to spiral downward. The year saw natural gas producers plunder back-to-back record profits, with Hess reporting that their natural gas production hit records for the third quarter of 2014. EOG Resources, the largest producer in the US, also broke records, particularly in the Marcellus and Utica shale fields in the northeast.

Once peaking at nearly $10 per thousand cubic feet in 2015, prices slid to about $3 over the next couple of years, as producers had to turn more and more of their focus to holding onto the properties they already had. A boom in drilling techniques called hydraulic fracturing (fracking) lowered production costs by making natural gas cleanly burnable, as opposed to dirty coal. Now, according to one estimate by the United States Energy Information Administration, about $5 billion is lost to natural gas production annually as companies scramble to find enough profitable reserves to meet a declining domestic market.

Finally, there was a similar glut in oil production, driven by high prices in the wake of the Arab spring and unrest in Libya and Nigeria, among other places.

As the prices kept falling, investor pressure increased, which made it even more difficult for the shale producers to sustain their operations and continued drilling.

As more shale driller bankruptcies and production cuts trickle in, it might finally show results.

A year ago, Genscape, a firm that monitors supply and demand in the gas market, found that natural gas prices were already dropping below what producers would need to justify drilling. A year later, a Genscape report indicated that gas prices had already fallen to an unsustainable low of about $3.

“If anything is evidence that the fracking folks have gotten themselves into a bit of a mess, it’s how far down they’ve already gone,” Genscape president Patrick DeHaan said.

Leave a Comment