Canadian natural gas producers can expect strong prices this winter, although perhaps not the record levels that some had predicted earlier this year, an industry analyst says.

Len Coad, an energy analyst with Calgary-based Ross Smith Energy Group, told a conference last week in Calgary that a warmer winter, stable storage and soft demand will likely result in natural gas prices above $10 US per million British thermal units (mmbtu) in the coming months, but probably not the $12-plus range for which many have been calling.

Coad, who has been forecasting natural gas prices for the past 20 years, said that when he examines recent data he believes that "instead of $12 (per mmbtu) being the floor for the winter, it appears that $12 has become the ceiling for winter gas prices, but not much change in terms of next summer, falling into the $10 range.

"Based purely on the fundamentals, that number could well be below $8 (per mmbtu)," he continued, adding that it doesn't seem likely it will dip that low. "I'm just saying that if we didn't have this market view that energy is scarce, if we didn't have crude oil at $60 or $57 (per barrel) today, there is potential that we could see much lower natural gas prices than we have today."

Coad's outlook for the coming winter calls for average prices of $10.75 to $11 per mmbtu, before they fall back to the $9 range next summer.

He said that heading into the winter heating season, Canada enjoys a cushion in natural gas storage of about 10 per cent above historic levels, which he called "a very healthy level" for Canadian storage. He expects that over the next two years, gas storage will fluctuate by plus or minus 10 per cent around the normal level.

The analyst also noted that with every available drilling rig in Western Canada going full out and averages of 15,000 to 16,000 natural gas well completions each year, the industry has managed to largely maintain production.

"We may see a half-per-cent decline in production, we may see a half-per-cent growth, depending how things play out, but notwithstanding three, four, five or six record drilling years in a row, production is flat."

He said it's a similar case in the U.S., where as of mid-2005 the industry had experienced a one-per-cent decline in production, "and our outlook is for something in the one-per-cent range decline this year and about half-per-cent decline next year."

In terms of gas demand, he said Ross Smith is forecasting less growth than in past years.

"In the past when we looked at demand growth, it was easy to justify two- to three-per-cent growth in natural gas demand. Nowadays, because of the price environment and because of supply constraints, we're talking about a half-per-cent growth in demand in each of the next two years."

He said it's a similar story in the U.S., where a drop in demand is expected for 2005, which is "partly a price response, partly what happens when you knock out all of those homes and businesses in the Gulf Coast" as a result of Hurricane Katrina. "You don't just lose supply, you lose demand, too."

Looking at the oil price, Ross Smith breaks down its forecast into two scenarios: The "gravity" case, which merely looks at fundamentals such as supply and demand, and the "anti-gravity" case, which places more weight on world events.

Based on the gravity case, Coad is predicting an average oil price of $55 US per barrel for the final quarter of 2005, and an average of $52.50 next year, with weaker prices in the first half of 2006 becoming stronger in the last half. Using the anti-gravity scenario, he looks for an average price of around $60 per barrel for the coming year.

"Looking at what prices have been doing for the last six months would suggest ... the focus has been on the anti-gravity case, in the $60-plus (per barrel) range. Recently we've been getting more evidence to suggest that perhaps we have more of a balance between the two cases."

The natural gas liquids (NGL) market, meanwhile, will remain volatile, Gerry Goobie, an associate at the Purvin & Gertz Inc. Calgary office, told delegates at the Canadian Institute-run conference.

Goobie said the North American natural gas processing business has been experiencing very high NGL prices in recent years, although the steady increase in gas prices, in addition to rising power prices, are taking their toll on operating margins.

"Frac" spreads - the difference between natural gas and NGL prices - have been fluctuating wildly recently. While the midstream market has enjoyed higher NGL prices, skinny margins do little to bolster sector profits, he added.

"You certainly saw over the last couple of months that the increase in fuel costs and electricity costs have driven the operating margins down, even though we've got some fairly significant frac spreads," Goobie said.

"We do have relatively high gas and electricity prices continuing over the winter, but if gas prices come off, as is the forecast for next spring, that should bring us back into a healthier operating margin."

In the meantime, the Gulf Coast petrochemical market, which Goobie called the "swing consumer" for NGL, continues to seek out the cheapest feedstock among the NGL family of propane, ethane and naphtha. This year, with an abundant supply streaming in from offshore, it is propane being bought up by these petrochemical producers.

"Propane inventories in the States are actually relatively healthy ... primarily driven by waterborne imports. In spite of a lot of damage from the hurricanes and so forth, propane inventories are relatively strong in the States."

He said it's a different story north of the border, where propane prices are higher, driven by lower inventories in Eastern Canada largely a result of recent operating problems in the West that have restricted shipments eastward.

"In general we're expecting to see prices in (Eastern Canada) relatively higher to U.S. prices."

(John Ludwick can be reached at ludwick@businessedge.ca)