A potentially bullish natural gas data mystery

November 9, 2009 11:42 am by Kate Mackenzie

It’s a basic economic tenet that supply must always equal demand. So when the Energy Information Administration finds in its monthly natural gas report that the volumes of gas produced are not equivalent to the amount of gas that is bought, it publishes a number known as the ‘balancing item’. This represents the different between the two amounts, and it is added to the supply number to correct whatever error led to the imbalance between reported supply and demand.

If there is more supply than demand recorded, the balancing item is negative. If supply is lower than demand, the balancing item is positive to make up the difference.

What does this number mean for markets? Ben Dell from Bernstein writes in a recent note (our emphasis):

If the balancing item is positive, it means that the sum of the sources of supply is less than the demand side. In other words, either supply is understated or demand is overstated. A positive
balancing item is bearish because it means that either there is more gas supply than people think, or there is less demand. A negative balancing item means the opposite thing, and is arguably a bullish signal.

Dell goes on to explain that while one would expect the balancing item – as it represents an undetected error – to move around randomly from month to month. In fact, they say, the balancing item follows a distinct seasonal pattern — and strikingly, it has always been positive between April and August for the past five years, suggesting that supply is always understated in summer. Neither Bernstein nor, apparently, the EIA itself has apparently been able to work out why this is.

This year, however, the balancing item isn’t following the pattern of the previous years. Writes Dell (our emphasis):

Over 2003-2008 the balancing item was never negative in the months of April through August, but in 2009 it was negative in each of those months. (See Exhibit 1). Moreover, it has diverged from the normal trend by 2.5-3 Bcfd in each of those months, which is a significant portion of the market, at around 5% of the total. As we mentioned above, a negative balancing item means that either supply is overstated or demand is understated – but either way it is a bullish signal. Although we still haven’t determined the source of the error in the EIA’s data, we are convinced that the gas market isn’t as bad as the current EIA supply and demand data implies.

We’d add that the aberration from the five-year trend could also suggest some kind of underlying issue affecting the data has been addressed – or that another factor has crept in. Either way, it remains somewhat mysterious. As Dell points out, import and export volumes are very closely monitored — so presumably the problems lie with domestic production or consumption.