We expected the price of natural gas liquids (NGL) be flat to slightly lower this fall, with rising propane and butane exports helping to balance the domestic market for these commodities and natural-gas prices drawing a line under ethane prices.
Although the mainstream media tends to focus on booming US natural-gas and crude-oil production when discussing the shale oil and gas revolution, natural gas liquids (NGL) are an important, if often overlooked, part of North America’s energy landscape.
The price of a mixed barrel of these hydrocarbons, some of which can replace naphtha and other oil derivatives in industrial and petrochemical processes, traditionally has tracked movements in the price of crude oil.
However, surging US NGL volumes and a lack of demand outlets had compressed the price of these hydrocarbons. Much of this price weakness occurred in ethane and propane, the two most abundant NGLs in the production mix. This downdraft occurred at a time when crude-oil prices generally remained elevated.
Our forecast for NGL prices also factored in our outlook for crude-oil prices, which called for West Texas Intermediate to drop to as low as $80 per barrel in the fall, a period when seasonal refinery outages can result in inventory builds. (See Commodity Price Outlook for 2014.)
We were wrong on both counts. The combination of slowing oil demand growth in China and other key markets and surging output from US shale plays—and their implications for global spare productive capacity—has sent crude prices plummeting. Energy & Income Advisor subscribers can read our updated outlook for crude oil and our investment strategy for the current environment in Game Plan for Lower Oil Prices.
The price of a mixed barrel of NGLs on the Gulf Coast has also plummeted by 45 percent since the end of the third quarter.
Whereas much of the past weakness in NGL prices has been concentrated in ethane and propane, the most recent downdraft has occurred across the board.
Ethane prices have dropped only 25 percent but have fallen below their break-even price with natural gas, suggesting that the industry may be butting up against its capacity to reject this NGL into the natural-gas stream.
Meanwhile, propane prices have also plummeted by 47 percent, reflecting surging production and narrowing price differentials between the Gulf Coast and Northwest Europe, a development that likely will inhibit US exports of spot cargoes.
On the plus side, contracted volumes should continue to climb into next year, as additional export capacity comes onstream. (See US Propane Exports to Continue Their Climb.)
Butane finds itself under similar pressure to propane in the export markets, while formerly steady natural gasoline prices have dropped precipitously in sympathy with crude oil.
Why does the pullback in NGL prices matter? Shouldn’t you be more worried about the drop in crude-oil prices?
For exploration and production companies, NGL output is notoriously difficult to hedge directly because of insufficient liquidity in these markets. The drop in the price of these hydrocarbons will be felt most keenly among upstream master limited partnerships (MLP) that pay out most of their cash flow as a monthly or quarterly distribution and gas-focused producers that rely on higher-value NGLs to bolster their wellhead economics.
In the midstream space, MLPs that generate a significant chunk of their cash flow from gas-processing operations could also feel the burn if their contract base is weighted heavily toward keep-whole and percent-of-proceeds agreements that entail exposure to NGL prices. Propane exporters that generate significant margin from spot shipments will also suffer a diminution in cash flow (contracted volumes, however, shouldn’t be affected).
Although North American petrochemical companies have profited from low domestic ethane and propane prices, ethane-ethylene margins have contracted by about 34 percent since they peaked in August 2014.
Meanwhile, the increasing cost competitiveness of naphtha—an oil derivative that accounts for 80 percent in Asia—has provided a welcome tailwind for the region’s ailing petrochemical operations.
Elliott and Roger on Feb. 27, 2018
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