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Natural Gas Hedging In Minnesota

September 30, 2009

http://www.gpng.com/Pages/Overview.aspx�

Agenda

• Hedging– Background & purpose– Hedging tools and examples– Benefits and risks– Evaluation of hedging

• 2009-2010 Winter Outlook– Supply and demand– Pricing– Reliability

2

Meeting background & purpose

• Hedging of natural gas has been a topic of consideration over the past several years.– Financial Instrument filings for approval to flow

the costs of hedging through the PGA– AAA Reports compare cost of gas and hedging

practices and various differences have surfaced – 2007 AAA Order authorized an open meeting to

discuss costs and risks of hedging

• What hedging approach or goal best serves Minnesota ratepayers?

3

Hedging Definitions

• Utilities do not engage in hedging in order to “beat the market” or to speculate on prices

• From the 2007-08 AAA report:– CNP: “the goal …is to reduce volatility, which may or

may not result in the lowest costs”– MERC: “the goal…is [to] provide a cap on prices and

mitigate price volatility”– Xcel: “the purpose…is to provide protection against

significant upward price spikes and limit costs in a falling price environment”

– OES: "the goal is…to minimize the cost for any given level of reduced volatility”

4

Hedging Tools and Examples

• Fixed Price – physical contracts, financial fixed-float swap, storage.

• Option Products – financial calls and puts, physical contracts with embedded options.

• Derivative Products – costless collars, many other combination products to provide price protection.

Fixed Price Product

$-

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

$3.00 $4.00 $5.00 $6.00 $7.00 $8.00 $9.00 $10.00 $11.00 $12.00

Supp

ly p

rice

Market Price

Fixed Price

Index Hedge Price

Storage, Physical Contract, or Fixed/Float Swap at $5.00

Call Option

$-

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

$3.00 $4.00 $5.00 $6.00 $7.00 $8.00 $9.00 $10.00 $11.00 $12.00

Supp

ly P

rice

Market Price

Call Option (Ceiling)

Index Hedge Price

Buy a Call Option$7.00 Strike Price+ $1.00 Premium

Put Option

$-

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

$2.00 $3.00 $4.00 $5.00 $6.00 $7.00 $8.00 $9.00 $10.00 $11.00 $12.00

Supp

ly P

rice

Market Price

Put Option (Floor)

Index Hedge Price

Sell Put Option$4.00 Strike Price- $1.00 Premium

Costless Collar

$-

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

$2.00 $3.00 $4.00 $5.00 $6.00 $7.00 $8.00 $9.00 $10.00 $11.00 $12.00

Supp

ly P

rice

Market Price

Costless Collar (Floor & Ceiling)

Index Hedge Price

Sell a Put Option$4.00 Strike Price

Premiums Offset

Buy a Call Option$7.00 Strike Price

Comparison of MN UtilitiesCenterPoint Energy MERC Xcel Energy

% of Winter Requirements Hedged (incl Storage)

40% 70% 50%

Storage (% of Winter Requirements)

14% 25% 24%

Use of Physical, Financial, or both for hedging

Both Both Financial

Fixed PriceYes Yes Yes

Call Options – Monthly 1Yes-Physical Yes-Financial Yes-Financial

CollarsYes No Yes

Timing of Hedge Purchase 2Mar -- July May – Oct Apr – Oct

Long Term HedgingUp to 60 Months Up to 12 Months Up to 5 years

Current Regulatory Limits $6.5 Million limit on net option premiums

30% of expected winter sales$32 Million less demand costs

= $21 million 3

Hedge Storage InjectionsYes No No

1 FOM Swing contracts: Physical supply for CPE due to high swing on weekends. Financial Supply for Xcel and MERC since they can rely on storage and do not have high swing on weekends 2 Timing may change depending on market conditions3 Annual limit includes demand charges for storage, option premiums, and settlement costs associated with fixed price instruments subject to a floor price. 10

Benefits of Hedging

• Reduced price volatility– Definition of volatility– Not all volatility is bad– Fixed price contract = zero volatility

• Protection from Price Spikes– Price spikes = customer pain– Price spikes vs. price increases

11

Volatility

$0.00

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

Jan

Mar

May Ju

lSe

pNo

vJa

nMa

rMa

y Jul

Sep

Nov

Gas

Pric

e $

per D

th

Scenario 1 Scenario 2 Scenario 3 Scenario 4

12

Risks of Hedging

• Option Premiums– Associated with Call Options– Homeowner’s Insurance

• Opportunity Costs– Fixed for Float and Costless Collars– Regular Price vs. Sale Price

13

Opportunity Costs

0

2

4

6

8

10

12

14

2 4 6 8 10 12

Market Fixed Price Call Option

Opportunity Costs

Opportunity Costs

14

Hedging Evaluation

• Current State– After the fact review– Peer comparison

• Alternatives– Prudence = Implementing the plan as drafted– Plan deviations need to be justified

15

NYMEX Pricing

$0.00

$2.00

$4.00

$6.00

$8.00

$10.0

0$12

.00$1

4.00

2004-05 2005-06 2006-07 2007-08 2008-09

June 15thActual

16

Questions and Discussion

17


Minnesota Natural Gas 2009-2010 Winter Outlook

September 30, 2009


2009-2010 Winter Outlook

• Supply and Demand– Currently in an oversupply situation

• Shale production• Demand decreases

19

Makeup of Annual U.S. Gas SupplySource: Energy Information Administration – Table 13

20.56

2.59

0.31

20.91

2.44

0.37

20.45

2.02

0.47

20.59

1.69

0.58

20.79

1.53

0.71

20.60

1.39

1.64

20.49

1.20

1.05

20.37

1.11

1.25

20.53

0.99

1.42

20.68

0.93

1.49

20.87

0.85

1.51

21.03

0.75

1.48

21.54

0.48

1.38

18.00

19.00

20.00

21.00

22.00

23.00

24.00

Tcf

2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

LNG

Imports

Wellhead/Drilling

http://www.eia.doe.gov/oiaf/aeo/excel/aeotab_13.xls20

PresenterPresentation NotesImported gas makes up approximately 15% of available/projected supply.

Annual U.S. Natural Gas DemandSource: Energy Information Administration – Table 13

23.44

23.14

22.57 22.56

22.82

22.72 22.6922.77

22.98

23.13

23.27

22.00

22.20

22.40

22.60

22.80

23.00

23.20

23.40

23.60Tc

f

2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

http://www.eia.doe.gov/oiaf/aeo/excel/aeotab_13.xls21

U.S Annual Natural Gas Supply/Demand Correlation

23.4623.44

23.72

23.14

22.94

22.57

22.86

22.56

23.03

22.8222.86

22.7222.74

22.6922.73

22.77

22.94

22.9823.10

23.1323.23

23.2723.26

23.29

23.40

23.43

21.80

22.00

22.20

22.40

22.60

22.80

23.00

23.20

23.40

23.60

23.80

Tcf

2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

SupplyDemand

22

PresenterPresentation NotesAs you can see depicted in the chart, that projections indicate adequate supply to meet demand.



• Storage inventory levels• LNG Imports

23

EIA Storage Data – 9/18/09

0.60

0.80

1.00

1.20

1.40

1.60

1.80

2.00

2.20

2.40

2.60

2.80

3.00

3.20

3.40

3.60

3.80

4.00 5-

Ap

r

12-J

ul

18-O

ct

24-J

an

Tcf

Week

2005/06

2006/07

2007/08

2008/ 2009

2009/ 2010

Previous 5 Yr Max

Previous 5 Yr Average

Previous 5 Yr Min

Source: www.eia.doe.gov24

United States LNG Imports

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

1/5/

2005

3/5/

2005

5/5/

2005

7/5/

2005

9/5/

2005

11/5

/200

5

1/5/

2006

3/5/

2006

5/5/

2006

7/5/

2006

9/5/

2006

11/5

/200

6

1/5/

2007

3/5/

2007

5/5/

2007

7/5/

2007

9/5/

2007

11/5

/200

7

1/5/

2008

3/5/

2008

5/5/

2008

7/5/

2008

9/5/

2008

11/5

/200

8

1/5/

2009

3/5/

2009

5/5/

2009

Bcf

LNG Imports

Previous Year

United States is typically dumping ground for LNG. Asia and Europe are willing to pay more for LNG than US. LNG prices are typically tied to oil prices.

Source: Energy Information Administration (EIA)25



• Ultimately corrected by declines in drilling and presumed demand recovery

26

US Rigs vs. Henry Hub vs. Production

0.00

5.00

10.00

15.00

20.00

25.00

30.00

35.00

40.00

45.00

50.00

55.00

60.00

65.00

0

100

200

300

400

500

600

700

800

900

1,000

1,100

1,200

1,300

1,400

1,500

1,600

1,700

Jan-

96

May

-96

Sep-

96

Jan-

97

May

-97

Sep-

97

Jan-

98

May

-98

Sep-

98

Jan-

99

May

-99

Sep-

99

Jan-

00

May

-00

Sep-

00

Jan-

01

May

-01

Sep-

01

Jan-

02

May

-02

Sep-

02

Jan-

03

May

-03

Sep-

03

Jan-

04

May

-04

Sep-

04

Jan-

05

May

-05

Sep-

05

Jan-

06

May

-06

Sep-

06

Jan-

07

May

-07

Sep-

07

Jan-

08

May

-08

Sep-

08

Jan-

09

May

-09

Bcfd & $US/MMBtuRigs

US Production

US Rig Counts

Henry Hub LDS

Source: Energy Information Administration (EIA) and Baker Hughes

$3.538

60.51

700 Rigs

Canadian Rigs vs Canadian Production

0.00

1.00

2.00

3.00

4.00

5.00

6.00

7.00

8.00

9.00

10.00

11.00

12.00

0

100

200

300

400

500

600

700 Bcfd Rigs

Canadian Production

Canadian Rig Counts

Source: Energy Information Administration (EIA) and Baker Hughes

6.18

39 Rigs

28


• Wholesale Pricing– NYMEX Futures price for upcoming winter months

was $5.25/dt on 9/22/09• The price in Minnesota will differ from this amount

– Recent daily volatility of winter pricing– Recent daily volatility of spot market

29

NYMEX Historical and Future Prices

$2.50$3.00$3.50$4.00$4.50$5.00$5.50$6.00$6.50$7.00$7.50$8.00$8.50$9.00$9.50$10.00$10.50$11.00$11.50$12.00$12.50$13.00$13.50

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

$/M

MB

tu

2007

2008

2009 Actual

2009 (as of 09/22/09)

Note: 2007 12 mo Strip -- $6.860 2008 12 mo Strip -- $9.035 2009 12 mo Strip Price -- $3.951

2010 12 mo Strip -- $6.837 2011 12 mo Strip Price – $7.247 30

Recent Price Volatility

31

2.000

2.500

3.000

3.500

4.000

4.500

$/dt

Daily Price of NYMEX Prompt (Next) Month Contract

$3.955

$2.508

Recent Price Volatility

32

4.500

4.700

4.900

5.100

5.300

5.500

5.700

5.900

$/dt

Daily Price of NYMEX 2009-2010 Winter (5 month) Strip

$4.550

$5.656


• Retail Pricing to Minnesota customers– Current price expectations compared to last

winter

33


Ventura

2008-09

Ventura

2009-10

% Change

November $6.08 $4.49 -26%

December $6.68 $5.19 -22%

January $6.17 $5.46 -12%

Febuary $4.86 $5.50 13%

March $3.96 $5.48 38%

Average $5.55 $5.22 -6%

34


• Reliability– Creditworthiness– Pipeline deliverability– Supplier performance– Distribution capacity constraints– Weather forecasts

35

Questions and Discussion

36


Natural Gas Hedging In MinnesotaAgendaMeeting background & purposeHedging DefinitionsHedging Tools and ExamplesFixed Price ProductCall OptionPut OptionCostless CollarComparison of MN UtilitiesBenefits of HedgingVolatilityRisks of HedgingOpportunity CostsHedging EvaluationNYMEX PricingQuestions and DiscussionMinnesota Natural Gas �2009-2010 Winter Outlook2009-2010 Winter OutlookMakeup of Annual U.S. Gas Supply�Source: Energy Information Administration – Table 13Annual U.S. Natural Gas Demand�Source: Energy Information Administration – Table 13U.S Annual Natural Gas �Supply/Demand Correlation2009-2010 Winter OutlookEIA Storage Data – 9/18/09United States LNG Imports2009-2010 Winter OutlookUS Rigs vs. Henry Hub vs. ProductionCanadian Rigs vs Canadian Production2009-2010 Winter OutlookNYMEX Historical and Future PricesRecent Price VolatilityRecent Price Volatility2009-2010 Winter Outlook2009-2010 Winter Outlook2009-2010 Winter OutlookQuestions and Discussion

Natural Gas Hedging In Minnesotamn.gov › puc › documents › fragment › 012351.pdfUS Rigs vs....

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