Natural gas: ‘Hedging’ and pipeline capacity an issue for Pennsylvania production
By Anthony Hennen | The Center Square
HARRISBURG, PA – A recent dip in natural gas production should not obscure Pennsylvania’s production growth, though some financial and infrastructure barriers stand in the way of the industry’s response to high prices.
Compared to natural gas production in the first quarter of 2021, production declined by 0.6% in Pennsylvania, according to a report from the Independent Fiscal Office. The production volume from horizontal wells was 1.851 billion cubic feet, compared to 1.863 bcf in 2021.
“Annual growth in quarterly production fell to the lowest rate in the last decade in the first quarter of 2022,” the report noted. Yet, while quarterly production growth has dipped, the industry in Pennsylvania has continued to grow through the pandemic.
“In (calendar year) 2021, Pennsylvania production recorded the strongest year-over-year growth of any top-five state,” the report noted. “Pennsylvania’s share of nationwide production was 18.5%, an increase of 0.9 percentage points from CY 2020 and its largest share on record.”
In other words, the quarterly numbers are a snapshot, preliminary rather than definitive.
“We’re just in the first three months of 2022, we still don’t know what’s going to happen for the remainder of the year,” said Naser Ameen, an analyst at the U.S. Energy Information Agency.
Production growth could ramp up for the rest of 2022, but the current high price of natural gas won’t necessarily drive large increases. Pipeline capacity is an issue, as is “hedging.” Companies minimize risk by hedging on the price of natural gas because it can be volatile. Though the price of natural gas in May was $8.14 per million BTU, companies are hedged at prices between $2 and $3.
“Many of the producers in the northeast … are hedged. They are hedged at prices much much below the $7+ that we’re seeing for natural gas now,” Ameen said.
When companies hedge against prices dropping, it means they won’t increase profits when prices rise.
“So that naturally puts an upper bound on the amount of production they can do. Even if they increase production, they’ll get the maximum hedge price,” Ameen said. “The rest they won’t because they tried to minimize risk. So they won’t get any revenue beyond what they’re hedged.”
Though hedging minimizes losses and volatility, in this case it also puts a constraint on production.
“Sometimes these hedges pay off, sometimes they don’t,” Ameen said. “When gas prices come down, they’ll again start making money on those hedges.”
Industry advocates also point to pipeline capacity issues as a barrier to production.
“Folks are responding to price signals but, keep in mind, there are other factors in play as well,” said Dave Callahan, president of the Marcellus Shale Coalition. “Leader after leader of various energy companies who have operations here in Pennsylvania keep pointing to infrastructure and pipeline capacity as definite needs. We need the right policies to get the pipe in the ground.”
The MSC estimated 7 billion cubic feet of pipeline projects were “put on the shelf” for various reasons. “That capacity is desperately needed to get product out of a very productive region like the Appalachian region.”
Production and capacity may be encouraged thanks to high prices – if they stay high.
“Current forecasts project that prices will continue to increase due to global supply and demand pressures,” the IFO report noted.
As production companies wind down their hedging, high prices will encourage investment.
“Much of the oil and gas development and exploration stagnated during oil and gas price downturns over the last decade,” said Christopher Zahasky, an assistant professor of geoscience at the University of Wisconsin-Madison. “Production lags behind price changes due to the time it takes to ramp up production (hire people, capital investment, resource exploration, etc). I would expect if the prices stay high and/or continue to trend up, then there will be a corresponding increase in production.”
