How will year-end curveballs affect the energy industry?

Congress throws the energy world some year-end curveballs. And are natural gas traders forecasting a change in the unseasonably warm weather that has been entrenched across the Eastern U.S. this season?

Energy Policy Changes

Where did that come from? In the waning days of 2015, lawmakers managed to agree on not one, but two major energy policy changes: Provisions lifting the 40-year-old ban on exporting U.S. crude oil were included in legislation to keep the federal government funded. The legislation also included an extension of the tax credit for renewable energy systems that was scheduled to expire at the end of 2016.

Nixing the ban on crude exports is a major win for the U.S. oil industry, and one that we frankly didn’t think would happen this year. Sure, the House of Representatives had passed a bill OK’ing exports this fall. But the White House was steadfastly opposed, so we figured any deal would have to wait.

Suddenly, American energy firms have unfettered access to world oil markets. Though still an importer of oil, the U.S. is producing lots of light, sweet crude that many refiners overseas prize. As production climbed in recent years, benchmark West Texas Intermediate (WTI) crude traded at a discount to Brent, the primary global crude benchmark, since WTI oil was largely trapped within the lower 48 states. In the wake of the ban being lifted, WTI and Brent have converged as markets anticipate the freer flow of oil across borders.

But the policy shift probably won’t have a major impact on U.S. energy firms in the near term. World oil markets remain oversupplied, even as Iran gears up to start exporting more oil once Western sanctions on its oil industry are lifted. So there probably isn’t an urgent need for crude from Texas or North Dakota overseas just yet. And we’ve heard that shipping out significant amounts of U.S. oil will require some new infrastructure to be built along the Gulf Coast first.

In the long run, look for the flow of oil into and out of the U.S. to increase as producers send more barrels of their light, sweet crude to refiners in Asia, Latin America or Europe, where they are designed to process that variety of oil, and as refineries here bring in more of the heavier, sour grades of crude that they can handle most efficiently. Expect net imports (imports minus exports) to keep declining over time, continuing the trend of recent years.

A Boon for Wind, Solar

Lifting the ban on crude exports wouldn’t have happened so quickly without a similar boost for the renewable energy industry. Congressional Democrats and the White House ultimately signed off on the end of the crude ban because they were winning a similarly weighty concession: Extended tax credits for wind and solar power. Originally scheduled to disappear or phase out after 2016, the 30% federal tax credit for solar projects will remain in place through 2019 and then gradually decline. The lapsed producer tax credit for wind turbines was revived and extended through the end of next year.

The new tax policy almost certainly guarantees a lengthy build-out of solar capacity. With the solar credit set to drop off after 2016, we were figuring on a huge rush of building next year as homeowners, businesses, utilities and investors scrambled to qualify for the 30% credit. That would probably have led to a dearth of new projects in 2017. Now, the pace of new installations promises to ramp up steadily, with no sharp peak and no big crash.

A Change in the Weather?

Trying to predict what this volatile winter will do next is almost impossible. But natural gas markets are signaling a cold trend. After plummeting to its lowest level in more than a decade, the benchmark gas futures contract rebounded sharply this week, from less than $2 per million British thermal units (MMBtu) to more than $2.20 per MMBtu. That’s still quite depressed, but the recent uptick suggests that traders expect heating demand to perk up. Cities in the Northeast that were basking in the 70s in recent days are now expecting temperatures that are a bit more seasonal.

We wouldn’t recommend that investors try to time the gas market, which is certain to remain extremely jumpy. This winter has already seen record warmth, heavy snow in the West and deadly floods and tornadoes in the South. There’s no telling what will come next, which will make predicting heating demand for natural gas a challenge.

Still, if the balmiest weather of the season does prove to be behind us, there’s a decent chance that the lows for natural gas prices are behind us, too.

Did OPEC tank the oil market again?

What a wild week in the energy world! Crude oil, already in the doldrums, is selling off on renewed fears of oversupply in the market. Natural gas producers can’t give the stuff away. And world leaders just adopted a major agreement on reducing greenhouse gas emissions.

OPEC Tanks the Oil Market

Haven’t we seen this movie before? About a year ago, members of the Organization of Petroleum Exporting Countries agreed to hold production steady, even though surging output in the U.S. had pushed the price of a barrel of crude down to about $70. That decision, though unsurprising to us at the time, sent the price spiraling down as traders came to grips with the reality that the oil cartel was not going to bail out the market by cutting production.

OPEC’s most recent nondecision looks like a rerun. With West Texas Intermediate crude trading between $40 and $45 per barrel, the group again opted not to curb output to prop up prices, even though markets are still oversupplied. Once more, we had expected as much. But the failure to act has again roiled markets, with WTI tumbling to about $35 per barrel — the lowest point since February 2009, in the depths of the Great Recession.

Is this the bottom for crude prices? This is a question that readers often ask. Making predictions about short-term market moves is dicey, but our guarded answer usually boils down to this: “We don’t know. But we wouldn’t bet on it.” With markets so volatile, and with so many factors working against a recovery in oil prices, we’ve warned in recent weeks that a brief but sharp drop below the $40-per-barrel level was a real possibility.

As to where prices go from here, our best guess is the bottom is getting close, if we haven’t hit it already. Despite all the cost cutting and efficiency gains that have been achieved by energy firms working in shale oil fields, we suspect that very few wells are profitable at $35 per barrel. And the shale industry seems to be reaching the same conclusion. The latest data from drilling services giant Baker Hughes show that the number of rigs actively drilling for oil continues to drop. At 524 active rigs, the total is down by two-thirds from this time last year.

U.S. output is gradually falling. Pinning down just how many barrels of oil are produced each day is tough, but the latest weekly data from the Department of Energy peg the figure at a hair less than 9.2 million barrels per day. That compares with the recent peak of almost 9.6 million barrels pumped each day during April. We look for output to continue its slow decline well into next year.

Production outside the U.S. is still robust, and probably will stay that way for now. But we expect the latest price drop to start hurting global output sometime next year. The International Energy Agency reckons that virtually all growth in world oil production is coming from OPEC now, which suggests that the cartel’s strategy of driving higher-cost rivals out of the market is starting to work. But even OPEC members might struggle to keep pumping flat out when oil revenues are down substantially. Political turmoil in Venezuela, Libya or another OPEC nation could lead to output cuts sometime in 2016.

The bottom line: The supply glut isn’t about to clear up. But it doesn’t look likely to worsen substantially next year, unless the global economy experiences a sharp downturn that crimps oil demand. Barring that scenario, the downward pressure on crude prices should lessen in 2016.

El Niño Wallops Natural Gas Prices

Natural gas isn’t faring any better than crude oil these days. After trading mostly between $2.50 and $3 per million British thermal units (MMBtu) for much of this year, the benchmark gas futures contract has tumbled to below $2 per MMBtu on fears that a mild winter will suppress heating demand. Gas stockpiles soared to a record of slightly more than 4 trillion cubic feet earlier this fall, and without some cold weather to burn off some of that bounty, traders figure the gas market will be plagued by oversupply next spring.

We don’t see much relief for gas bulls in the near term. The normally gas-hungry Northeast has been seeing record warmth recently, with no sign of an imminent change in the weather pattern. Winter hasn’t officially started yet, but this season looks to be shaping up as a classic El Niño winter: lots of precipitation hitting the West Coast (good news for the region’s drought) and mild weather across much of the northern tier of the country.

But we see some reasons to believe that gas prices should eventually move higher. For one, gas demand figures to be stronger than the warm weather would suggest. In addition to heating homes, gas also powers many of the nation’s electric plants. And in 2015, electric utilities are ramping up gas consumption as new clean air rules prompt the retirement of many coal-fired power plants. So far this year, the electric sector is burning 18.5% more gas than it did during the same period last year. That trend will probably intensify, no matter what the weather is.

Also, the U.S. is importing less gas and exporting more of it. Most of those added exports are going to Mexico via pipeline, but Cheniere Energy of Texas plans to soon begin shipping cargoes of liquefied natural gas to overseas markets. And gas production is no longer surging the way it was earlier this year. According to the most recent weekly data, gas output actually fell slightly from its level of one year ago. Early in 2015, output was rising at a 10% annual pace. (As with oil, gas drilling activity has slowed sharply.)

Those factors should help whittle down gas stockpiles. If the winter of 2015-2016 ends up being as warm as 2011-2012 (one of the warmest on record), we calculate that the combination of weak demand for space heating and strong demand from power plants will push gas held in storage down to about 2.4 trillion cubic feet. That’s high for the end of winter, but not unprecedentedly high (March of 2012 saw a similar level). We reckon that would dispel fears that the country might run out of storage space next spring, when stockpiles start growing again.

We look for natural gas prices to rebound modestly by winter’s end, to between $2.50 and $3 per MMBtu. Unless, that is, this El Niño winter ends up exceptionally balmy.

Paris Climate Negotiators: D’Accord!

As we predicted a month ago, the UN meeting in Paris on efforts to rein in emissions of greenhouse gases did indeed produce a deal. And environmentalists are celebrating.

But it’s important to note the actual details. Negotiators agreed to try to limit future emissions so that global temperatures rise less than 2 degrees Celsius from preindustrial levels. In fact, they resolved to shoot for limiting the increase to 1.5 degrees if possible.

The goals sound impressive. But the emissions cuts that the signatories committed to won’t reach those targets, assuming that the UN’s projections on greenhouse gas levels and temperature are correct, according to the Netherlands Environmental Assessment Agency. Keeping future temperature increases below 2 degrees (let alone 1.5 degrees) would require dramatic reductions in global emissions. The pledges made in Paris jointly add up to simply slowing the growth in emissions, if they’re implemented as promised.

For environmentalists and anyone else concerned about climate change, Paris will likely be seen as a good start. It certainly won’t be the end.

How much will you pay for energy this winter?

Two weeks ago, we explained why we believe low oil prices are here to stay. Today, we lay out our expectations for the energy prices that consumers can expect to pay this winter. The bottom line: Trips to the gas station and winter heating bills should be bearable for most folks during the cold-weather months.

Pump Prices: Under Control

At $2.04 per gallon, the national average price of regular unleaded gasoline probably can’t fall too much further. But considering it’s down about 75 cents per gallon from this time last year, most drivers probably won’t complain. Though we think the national average will probably bottom out around $2 per gallon, a big rebound looks unlikely. Figure on regular unleaded averaging in the low-$2 range until midwinter, before prices start climbing in anticipation of the spring travel season and as refiners begin to switch over from making winter-blend gas to the summer variety (which costs a bit more to make).

Even the run-up we expect to begin in late winter or early spring should be tame, with regular unleaded climbing to about $2.50 per gallon or so by the time warm weather returns. Expect a similar path for diesel, with the current average price of $2.42 per gallon slipping below $2.40 before gradually trending higher over the course of the winter and reaching about $2.75 during early spring.

Heating Fuels: Abundant

Whether you heat your home or business with heating oil, propane or natural gas, you’ll benefit from ample supplies that should ward off any big price spikes this winter. Stockpiles of propane are at a record high and could even keep growing in coming weeks. Supplies of distillates, which include both diesel fuel and heating oil, are plentiful both in the Northeast (where most heating oil customers reside) and in Europe (where oil is a widely used heating fuel).

While we expect both propane and heating oil prices to gradually creep up over the course of the winter, the prices users pay should average lower than last winter. For propane, figure on about 15 cents per gallon less; for heating oil, about 50 cents per gallon less. (But note that regional prices can vary widely because of supply chain factors.)

Natural gas storage facilities are brimming. The Department of Energy reports that gas held in underground storage now stands at 4 trillion cubic feet, the most on record. That glut and the outlook for a mild winter in much of the country has sent benchmark gas prices down, and end users are also paying less for natural gas than they did a year ago. That should continue through winter, welcome news for the roughly half of households that heat with natural gas.

Electric Rates: Leveling Off

After declining in the aftermath of the Great Recession, electric rates rose steadily each year after 2012. But that trend is now in reverse, with utilities that burn an increasing amount of natural gas to generate power passing along the savings from cheap gas to ratepayers. We look for commercial and industrial customers to pay slightly less on average for power this winter than they did during the comparable period a year ago. Residential rates, which had been climbing fastest, should hold flat.

The Geopolitical Picture

Though we look for oil prices to continue trading between $40 and $45 per barrel into early winter, a price spike can’t be ruled out entirely. But it would probably take a major crisis in the Middle East to cause one. The price of crude did jump a bit last week when Turkish fighter jets shot down a Russian bomber. Turkey isn’t a major oil producer, but a good deal of oil from the Middle East and Russia does pass through Turkish pipelines or Turkish waters on the way to Europe, so a confrontation between Ankara and Moscow does raise some legitimate fears for the oil market. (Still, the price run-up subsided once the initial war fears calmed down.)

Barring a full-blown crisis, we don’t see crude prices moving much higher. Despite all the chaos in the Middle East and growing worries about Islamic terrorism, oil production in the region remains robust. Libyan output is down because of the country’s continuing civil war, but OPEC members such as Saudi Arabia are pumping as fast as they can. Unless new fighting threatens a major oil field or export terminal, traders will likely continue to shrug off the carnage. Expect oil prices to trend only a bit higher during the winter, with U.S. crude reaching about $50 per barrel toward spring.

Oil producers are hoping that OPEC will agree on output cuts to prop up prices when the group meets this week. But we think they’ll be disappointed. Oil-rich countries that are suffering from crude’s price swoon are calling on Saudi Arabia to curb its output, a move the kingdom has made in the past when global oil supply and demand were out of sync. Now, the Saudis say they’re unwilling to cut production unless other big producers join them, and we think that odds of such an agreement aren’t good.

Tensions within the oil cartel are already high as rivals Saudi Arabia and Iran back opposite sides in the conflicts in Syria and Yemen. Russia, which exports about as much oil as Saudi Arabia does but isn’t a member of OPEC, has aligned itself with Iran, further polarizing relations among the world’s oil powers. We believe it would be awfully hard to forge an agreement among such fractious negotiating partners, especially when every oil exporter is already producing as fast as possible to maintain market share at a time when global oil demand looks shaky.

Should OPEC reach a deal to cut production, the resulting price increase would spur U.S. producers to ramp up again. The lesson of the last few years has been that American energy firms can quickly increase their output when oil prices are high. Even amid a big price drop, those companies are finding ways to hang on, mostly by cutting their costs wherever possible. And if they can survive at $45 per barrel, you can bet that they would thrive at the $60 or $80 per barrel that many oil exporters would like to see.