Varcoe: Western Canadian producers pinched by ‘remarkable’ plunge in natural gas prices

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High oil prices and bitterly cold weather should be the perfect recipe to supercharge natural gas markets in Canada this winter.

Instead, Alberta gas prices have taken a big tumble in the opening weeks of 2023, pulled down along with U.S. markets.

Earlier this week, U.S. benchmark prices briefly dropped below US$2 per million British thermal units (mmBTU), down more than 75 per cent from last summer’s highs.

Prices are also in a funk in Western Canada, even with a deep freeze settling over the Prairies this week that has forced furnaces into overdrive.

“This winter cold blast we’re getting is too little, too late,” said Jean-Paul (JP) Lachance, CEO of Peyto Exploration & Development, one of Canada’s largest gas producers.

“For the gas prices to really get going here, you need this weather in Chicago, not in Calgary,” added Kelt Exploration chief financial officer Sadiq Lalani.

“I don’t think anyone predicted gas to be below $3. This is definitely a bit of a surprise.”

The beginning of 2023 has been a vertigo-inducing period for Canadian gas producers, who enjoyed a strong rebound in ’22 after several difficult years.

Drilling activity and production has jumped over the past 12 months as liquefied natural gas (LNG) exports out of the United States surged to meet the needs of countries in Europe and Asia, pushing up prices in North America.

Last year, benchmark AECO natural gas prices in Alberta averaged C$5.31 per thousand cubic feet (mcf), up more than 40 per cent from 2021 levels, and producers responded by increasing spending to bring on additional supplies.  

The first two months of 2023, however, have flipped the script.

Warmer-than-expected winter weather in parts of the U.S. and an outage at the massive Freeport LNG terminal in Texas — which accounts for 17 per cent of all American LNG export capacity — have side-swiped gas markets, pushing prices lower.

The interruption of exports from Freeport LNG, which had just received approval this week from U.S. regulators to restart operations after a fire last June, meant about two billion cubic feet (bcf) per day of gas hasn’t been leaving the continent.

On Thursday, U.S. gas prices closed at $2.35 per mmBTU on the New York Mercantile Exchange (NYMEX).

“It’s a complete swing of the pendulum from what we saw in 2022,” said analyst Jeremy McCrea of Raymond James.

“It’s nothing short of remarkable, how quick and fast natural gas prices have unwound here.”

McCrea pointed out that production last week in Western Canada climbed to 18.1 bcf per day, a nine per cent increase from a year earlier, with additional supplies coming on as prices have fallen this year.

Back on Dec. 13, 2022, AECO spot prices for natural gas closed at C$6.40 per thousand cubic feet (mcf), according to Raymond James data. On Thursday, it sat at $2.91 per mcf, even with cold weather sparking increased demand in Western Canada.

“What this means is we will probably have to suffer the (price) pain through the rest of winter and probably the summer as well,” said Lalani.

“But what it does mean is the rig counts in the U.S. should start to drop for gas drilling.”

Early indications suggest that’s already happening south of the border.

On Friday, Baker Hughes reported the rig count in the U.S. dropped by seven to 760 active rigs, the largest decline in more than two years.

Jonathan Snyder, vice-president at energy analytics company Enverus, said warmer-than-expected weather to start 2023 and more gas sitting in storage in the U.S. is putting “relentless pressure” on prices.

“We were expecting weakness. We definitely weren’t expecting prices to dip below $2,” he said.

Snyder noted U.S. producers Comstock Resources and Chesapeake Energy have both indicated recently they will reduce drilling in the Haynesville formation in Louisiana and Texas this year because of feeble gas prices.

Earlier this month, the U.S. Energy Information Administration chopped its price outlook for Henry Hub natural gas prices by 30 per cent to US$3.40 per mmBTU.

Analysts say tepid prices in the U.S. will likely mean continued woes in Western Canada as well, given the interconnection between the markets.

“In our view, the U.S. market is going to be oversupplied, really until the end of 2024,” Snyder said.

“Largely driven by the depressed NYMEX price, we don’t really see prices returning to the 2022 levels anytime soon for AECO.”

In Western Canada, most companies aren’t yet scaling back spending plans for the year, as producers have already locked in their programs for the winter drilling season.

The Canadian Association of Energy Contractors reports 84 rigs were drilling for natural gas last week, up 15 per cent from the same period last year.

However, that trend could change in the spring and summer if low prices persist, and as favourable hedges that locked in higher prices for producers begin to come off.

“We haven’t seen a huge reaction yet, but if gas prices persist, you might see some capital budgets being cut,” Lalani added.

“People will probably reassess in April and May.”

While Peyto isn’t exposed to AECO gas pricing, Lachance expects weak prices in Alberta will persist during the summer, a volatile period for the market as it’s often affected by maintenance work on the pipeline system.

Peyto, which set a capital budget of $425 million to $475 million for the year, will remain flexible and spend toward the lower end of its target.

“We are going to take a cautious approach to our capital program,” said Lachance.

“And we are going to watch prices carefully.”

Chris Varcoe is a Calgary Herald columnist.

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