How related are the consumption of Natural gas to its price – Examining Natural gas

In the last week there were many changes in Natural gas prices and the peak was when the New York City Gate Spot price after increasing on Monday by over 11%, rose the following day by 61%. Later on, there was a sharp decline and a two day correction. Besides this change, there is also a trend that in the last several weeks Natural gas prices rose substantially. I have covered in the past the question of whether or not there is seasonality in Natural gas prices and I said back there that there is seasonally, as expected, however it’s very unpredictable and not reliable how and when exactly the prices will changes (e.g. this year the prices started to rise only during November and fell during October, while on average in previous years the prices rose during October as well).

In this post I intend to complete the former analysis by examining the relationship between consumption and prices of Natural gas from historic perspective and see if there is reliable trend which could explain this correlation between them.

Correlation between Consumption change and Natural gas Prices change

*Monthly average prices; Source: EIA website: www.eia.gov and Bloomberg

In the table above is the correlation between the monthly percent change in consumption and percent change in prices of Natural gas. It shows that for the entire period the correlation is very low – only +11%, however it’s because there are different set of correlations, sometime positive and sometime negative which cancel one another. E.g. in 2008 there was a -34% negative correlation, while in 2010 there is a 49% positive correlation. Therefore, at first glance, the relationship of these two indictors isn’t very stable or reliable.

In the chart below there are two figures: the Natural gas price history on a monthly scale from 2001-2010 (in $/MMBTU, the blue line), in which its scale is on the right; the other figure is the total US monthly consumption of Natural gas (in Million cubic feet, the green chart), in which its scale is on the left.

This shows the seasonality of Natural gas consumption with its peaks during winter time, while Natural gas price has a much less obvious trend with two peaks during 2005 and 2008. At least during 2008 it’s obviously due to the rise in Crude oil prices, nearing the 150 USD/b at that time, however this isn’t the explanation for 2005 since Crude oil prices were around 55-65 USD/b at that time.

natural gas prices and consumption 2001-2010*Monthly average prices; Source: EIA website: www.eia.gov

What does it all mean?

Natural gas prices are correlated to some degree to the consumption, however since the consumption is mostly related to weather, this means that betting on Natural gas is, in some what, as betting on the weather, not to mention that the relation between them varies on a yearly scale, Furthermore, while Consumption could explain at best 25% of the variability of Natural gas prices (r square = 25%, since r=49% for 2010), it means that other variables are still out there that affect Natural gas prices (e.g. the consumption in Europe and Asia, Crude oil prices, and speculation around this commodity).

For now at least, the recent rise in the past weeks is strongly related to the weather and seems to be the main cause for the recent upward trend in Natural gas prices, however, all things being equal, this upward trend should end in February, as in the past, if the weather will play as expected, and that’s a big if…

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