Week Ending May 14

The June WTI contract had tested $66 several times back in March. The rally that began in late April has moved the June contract into a band just below that resistance level, bouncing between $63 and $66. While the June contract is being held below $66, the back of the curve is doing better. Dec 2022 had been around $56 in mid-April but crossed over $60 this week.

Despite the strength in 2022 (and 2023), we think many clients should consider using some more options structures beginning in 2H2022 rather than relying only on swaps. For clients whose budgets depend on prices in the high $50s, swaps still are the wisest choice (we explain below).

There are some influential groups becoming more optimistic about demand growth. Meanwhile, they are also becoming more convinced that non-OPEC production will be limited in 2021-2022. The US is the largest potential grower in that group. This could easily create oil scarcity in 2022, with the possibility of scarcity arriving in 4Q2021. More detail available here (link)

We were hesitant to be bullish in 2022. Why now? OPEC production has been an imminent threat to the global S&D since even before the pandemic began. Further, the path of the demand recovery has been uncertain and disappointing. Still, there are concerns that India's demand will be slow to recover, and Europe has consistently lagged. Now that more time has passed, we can see a higher probability that demand growth could overwhelm OPEC's ability to add supply. Further, we see evidence among our clientele that the U.S. producer is not quite willing to invest in production growth. Perhaps WTI in the $70s would change that behavior.

The balance of the Summer strip is now at $3.00, and winter finished the week at $3.17. In the last two weeks, August is up 3c (and Bal summer); winter up 5c; summer 2022 up 5c; Winter 2022-2023 is up 5c. Even though we remain bullish, there are limits to how high prices can go this summer, and much of the bullish fundamentals may already be priced-in to the curve. Fundamentals for natural gas still look good. The recent EIA statistics confirm that this market is more than 1 Bcf/d undersupplied compared to the five-year average, if we control for weather.

This market can tolerate some loss of demand and still be on track to enter next winter at a relative deficit in inventory.

Our major bear flags that could ruin the thesis include:

• Associated gas from oil plays
• Renewables running at high utilization
• Rise in dry-gas production from Haynesville
• Small changes in price and curve

We remain optimistic about higher gas prices for this summer and the upcoming winter. Not much has changed in the front of the curve. The curve has moved parallel and higher, a departure from its behavior in recent months. The back of the curve had acted as an anchor, hardly moving while near-term tenors moved up or down. However, now, the back of the curve is moving 1:1 with the front, sometimes more. Has enough time gone by that demand-side traders are buying next summer and winter? We expected it would happen at some point in this calendar year, as Summer 2022 and Winter 2022-2023 has been at a severe discount to Bal Summer 2021 and Winter 2021-2022

Hedging recommendations:

• We still recommend options structures for most clients
• Keep some upside exposure because this market's fundamentals are good, and market sentiment is tilting toward "cautiously bullish."
• If your budgets depend on gas prices in the high $2s, then swaps are very attractive, and this is an opportunity to shore up your floor price.