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Colder-than-normal weather is a positive catalyst for natural gas

Ingrid Pan, CFA

Natural gas prices are affected by winter weather

Natural gas prices are especially affected during the winter, as many households use natural gas for home heating. Warmer weather translates into less natural gas demand, and therefore lower prices. Conversely, colder weather translates into more natural gas demand and higher prices. Natural gas prices affect the earnings of major domestic natural gas producers, such as Chesapeake Energy (CHK), Range Resources (RRC), Quicksilver Resources (KWK), and Southwestern Energy (SWN). Plus, many of these companies are part of energy ETFs, such as the Vanguard Energy ETF (VDE).

Heating degree days were higher than normal last week

For the week ending October 26, heating degree days (as weighted by gas home-heating customers) for the U.S. totaled 104 versus the normal figure for corresponding weeks past of 85. Heating degree days (HDD) are a measure of how much colder than room temperature the weather is, and the greater the HDD figure, the colder it is. This week’s HDD figure was higher than normal, meaning weather was colder than normal, which implies more natural gas demand and therefore higher natural gas prices.

Natural gas prices remained roughly flat on the week, closing Friday, October 25 at $3.71 per MMBtu, as compared to $3.76 per MMBtu a week earlier. Though weather was colder than normal, the market had likely priced in the colder-than-normal weather in earlier trading sessions, and prices were weighed down by a higher-than-expected inventory build as well as forecasts of incoming mild weather.

How weather can affect natural gas producer valuations

As we’ve seen, colder weather theoretically translates into higher demand and consequently higher natural gas prices, which affects the earnings and valuations of natural gas–weighted producers. The below graph displays natural gas prices over time versus the stock prices of CHK and KWK, two producers whose production is currently weighted towards natural gas. Over the past few years, the equity prices of these companies have trended with natural gas prices. To see more on how commodity prices affect upstream energy companies, see Oil and gas producer revenues can suffer if commodity prices drop.

As the peak of winter approaches, weather will be an increasingly important indicator to watch for natural gas demand and natural gas prices, affecting gas-weighted producers such as CHK, RRC, KWK, and SWN as well as energy ETFs such as VDE.