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Almost from the start of modern trading of futures contracts in the early 1980s, there's been an expected trading connection between crude oil and natural gas.
Of course, the parallel between the two had tacitly existed much earlier.
It was usually calculated in "Btu equivalences," meaning that the convenience of moving from gas to oil (or vice versa) was summarized by how much heat energy each could generate (measured in British thermal units – Btu).
That both energy resources happened to be drilled in essentially the same way and, even more so, tended to be found together only accentuated the equivalence.
Given these factors, market prices often changed in lockstep.
But over the past two decades, the traditional assumptions underlying this connection have been predicated on a factor that's quickly going away…
Which is why I now see oil and gas prices diverging.
Here's who the "winner" will be…
Oil and Gas Prices Are Already Diverging
When the Btu relationship between oil and gas was initially advanced, thermal heat had been the main ingredient. While both natural gas and low-sulfur heating oil remain staple ways to heat a home in the winter (a central Btu-related matter), these days the environment is quite different.
And with these changes, the coupling of crude oil and natural gas prices has been eroded.
To be sure, there is still a connection. But it is far weaker.
Take the most recent pricing, for example.
WTI (West Texas Intermediate, the benchmark crude oil rate used in New York and set in Cushing, Okla.) and Henry Hub (the major natural gas pipeline confluence in Louisiana, where natural gas prices are set) have had similar price changes over the past month through close of trade yesterday – up 1.14% and 1.7%, respectively.
Yet for the most recent week, Henry Hub is up 3.5%, while WTI is up only 0.8%.
Natural gas has experienced a more sluggish recovery than crude oil has. But as we move back into a cooler winter cycle for much of the country, that is likely to reverse.
In fact, despite some significant concerns over surpluses in storage, many analysts (myself included) see gas prices moving up quicker than oil for at least the next three quarters. The main reason involves how different the end-use markets are for each resource, compared to those from only a few years ago.
And this is the reason oil and gas are likely to see a separation in prices moving forward. While both are experiencing increasing demand, natural gas has seen a greater expansion of consumption options…
About the Author
Dr. Kent Moors is an internationally recognized expert in oil and natural gas policy, risk assessment, and emerging market economic development. He serves as an advisor to many U.S. governors and foreign governments. Kent details his latest global travels in his free Oil & Energy Investor e-letter. He makes specific investment recommendations in his newsletter, the Energy Advantage. For more active investors, he issues shorter-term trades in his Energy Inner Circle.