Market Newsletter – July 2021July 30, 2021
Written by: Luke Nemes, Director, Energy Procurement & Market Intelligence
“Nothing happens until something moves…Everything is connected.”
Newton’s first law of motion, often referred to as the law of inertia, is a principle starting point and the fundamental assumption of classical mechanics.
An object at rest stays at rest and an object in motion stays in motion with the same speed and in the same direction unless acted upon by an unbalanced force.
Galileo actually first began to explore this principle from a humanistic perspective in his attempts to explain how, if the Earth is rotating on its axis (it is), why we do not sense the motion of the Earth. Inertia provides the answer – we are in motion together with the Earth, and since we retain that motion, the Earth appears to be at rest (it isn’t). It seems fairly obvious in retrospect, yet even with such a concrete example of sensory perception conflicting with reality, we continue to wrestle with inertia’s impact on us and the decisions we make. While the traditional application of inertia largely involves physics, and the ways in which various motions can be explained, it also can be extended to human psychology, decision making, and energy commodities.
Inertia is why we generally resist change, prefer to maintain the status-quo, and why we have a propensity to maintain defaults either by repeating prior decisions or avoiding action altogether. The key phrase of Newton’s first law of motion to focus on in understanding how inertia impacts markets and decision-making processes is: unless acted upon by an unbalanced force. For purposes of our discussion, the unbalanced force is an external one – you, the end-user. But before we can investigate the application of unbalanced force that might be required of end-users in today’s energy markets, we must investigate the present inertia of the inherently volatile underlying energy commodity, natural gas, and the increasingly correlated wholesale power trends.
There are constantly a multitude of propelling external forces at work in the natural gas arena, and those have been well-documented in previous commentaries (see June commentary). As of today – these forces have generated enough inertia to push natural gas above the $4 mark for the first time in several years. Natural-gas futures have gained about 40% since April and are more than twice the price of a year ago. PJM wholesale power prices in July were the highest we’ve seen in seven years. In ERCOT, increasing fuel costs are a key upside price risk to the forward curve, in July accounting for the majority of electricity price increases for Cal 2022 and Cal 2023. In NYISO, winter prices have continued higher on rising scarcity concerns, with November 2021-March 2022 surging $5.02/MWh (7.7%). No matter where you look, prices are on the rise and show no signs of slowing down. If you missed it, here is a quick summary of why the price increase is entirely justified: i) the market is undersupplied through the winter and well into 2022, even with prices above $4/MMBtu, ii) the current natural gas storage trajectory remains on track for the second-lowest end of injection-season of the past decade, iii) gas-to-coal switching, historically an effective market-balancing mechanism, is tapped out due to continued waves of coal-plant retirements iv) LNG export volumes and prices continue to set new records and v) natural gas producers continue to demonstrate restraint and are committed to maintenance-level production.
This maelstrom of bullish factors has generated an incredible amount of upward price momentum (its current inertia) over the past month, and there is very little evidence of any bearish unbalanced force on the horizon that could reverse this motion. This leaves end-users of energy commodities in a predicament, and one that requires a realignment of their risk tolerances and energy budget expectations.