If you’re reading this in Texas, I hope this finds you safe and warm… I know many are not, and our hearts go out to them right now.
But sadly, struggling to stay warm amidst rolling blackouts and freezing Arctic temperatures is not the only thing over four million Texas residents will have to endure over the coming weeks.
Heating and power bills are going to be enormous.
Regional spot natural gas prices have skyrocketed across the entire Midwestern US, shooting up as much as 3,000-4,000% up and down the entire area.
Nat gas prices are currently fetching $45/mmbtu at the Southern Star hub in the Kansas area, almost $90/mmbtu at the San Juan Basin hub in New Mexico, and $120/mmbtu at the Opal hub in Wyoming.
Source: Seawolf Research
And that’s even before we get to the epicenter of all this mayhem in Texas and Oklahoma.
Prices are over $160 at the Waha hub in western Texas, upwards of $200/mmbtu at the Amarillo Line and in the Mid-Continent Pool to the north, and an incredible $337.13 at ONEOK’s OGT intrastate pipeline system in Oklahoma.
Energy news publication Natural Gas Intelligence visualized the debacle in the chart below, juxtaposing regional temperatures from cold (purple) to red (hot) versus the triple-digit spreads in regional gas prices (white boxes).
Source: Natural Gas Intelligence
Given that natural gas is an input cost for power generation, prices per megawatt hour are also soaring, with spot prices at ERCOT (the Texas regional grid) shooting up over $7,000/MWh on Friday before “settling back” to $6500/MWh today.
In fact, prices have become so egregious that power retailers in the state, like Griddy, are offering money to customers who switch to better-hedged power providers rather than face what is certainly going to be an exorbitant monthly bill.
On that note, if you’re reading this and you happen to fall into this category, you can find alternative power providers at Green Mountain Energy, Amigo Energy, and Just Energy. And if none of those are options for your area, you can try looking through www.powertochoose.org.
When we look at electricity generation by energy source, we can start to get a feel for why this is all happening.
Renewables — particularly wind — stopped producing, and the lack of additional baseload coal and nuclear power meant that incremental demand increases had to be picked up by natural gas.
Couple that with an increase in residential demand for natural gas heat, and the fact that oil/gas wells and refineries shut down during deep freezes, and you’re left with a significant supply shortage.
And although the NOAA 6-10 Day Weather Outlook shows temperatures in the region are likely to normalize by next week, that still means residents have a few more days of this historic cold snap to endure.
So, there are a couple reasons for the drop-off in wind production that I should talk about, the first of which is the physics behind how wind works.
In winter, wind tends to be stronger because the temperature difference between low and high pressure systems tends to be greater. According to NOAA, the current pressure systems across the Midwest are essentially split right down the middle.
However, from a temperature perspective, we can see the delta between those two pressure regions is fairly small once I overlay the western isobar.
That means despite the winter storm, wind speed hasn’t picked up this month to a degree that would cause any significant increase in wind power generation.
The second reason is a lot simpler… It’s pretty hard for windmills to turn when they’re frozen.
Although this type of cold-weather event is certainly a rarity in warm-weather Texas, it highlights the failure of ERCOT to effectively plan for improbable events — or what us finance bros call “tail risk.”
Kind of ironic, since the “R” stands for “reliability.”
Understandably, a lot of fingers are being pointed on the interwebs today… some, at least, in hilarious fashion.
But as in most issues, the truth is complicated.
The growth of wind and solar generation in Texas over the years has largely come at the expense of retiring what we call “baseload” generators — i.e. coal and nuclear plants.
Obviously from an environmental perspective, that seems like a good thing.
The thinking was that as these renewable sources are added, they would become the new baseload capacity and the gap would be more than adequately filled in by cheap, nimble, short-cycle natural gas plants.
Those gas plants cost half as much to build as a coal plant, can be brought online in less than a quarter of the time and the fuel cost itself would prove to be cheaper and more abundant over time as US production ramped up.
That way, when renewables underperformed — as they often do — there was a ready supply of fuel ready to step in at a moment’s notice to prevent peak pricing. In industry parlance, we call these plants “peak shavers”.
In general, the fuel for peak shavers is secured by interruptible contracts, which can be curtailed if uninterruptible (or “firm”) contract holders “use the available capacity, or if other interruptible customers outbid the power plant.”
Moreover, this supply is generally pulled from what we call “pool gas,” which is just the difference between the amount of gas available in pipeline pools and the amount already destined for customers that week.
One thing that ERCOT clearly failed to appreciate before approving these changes to fuel source diversity, is that at temperatures well below freezing — somewhere around 10-15 degrees Fahrenheit — wellhead and pipeline equipment can “freeze off,” and reduce transmission capacity.
Well, those freeze-offs happened in spades this week, pushing the amount of pool gas essentially to zero immediately.
And those interruptible contracts were interrupted (surprise!) to divert any available production over to residential heating, as required by law.
Any remaining available gas had to be pulled in from neighboring areas who all happen to be dealing with the exact same problems. And without any available incremental supply, capacity just gets pulled offline, and rolling blackouts ensue.
It’s gotten so bad at this point that Texas Governor Greg Abbott has asked exporters to stop in an attempt to stave off further supply imbalance.
Source: Bloomberg New Energy Finance
As you can probably tell at this point, the core issues are all intertwined.
First off, yes, it was probably premature to treat intermittent renewable sources like wind and solar as baseload generation capacity without being accompanied by grid-scale battery storage. And even then, we already know that cold weather can still negatively affect battery capacity.
But it’s obvious that other fuels had problems too.
Clearly, future gas plants in the region have to factor in some kind of dual fuel strategy similar to what was mandated when similar issues occurred in the Northeast back in 2013-2015. For Texas, the backup fuel would likely be diesel, given the amount of both storage and refiners in the area.
And moreover, this week’s events also indicate that we probably need to consider replacing some retired coal and nuclear plants — if only so that they can be used in times of stress. These can be balanced by region to account for both fuel availability and overall carbon concerns.
If we’re really in the process of Building Back Better, it behooves us to ensure reliability of the grid through redundancy and flexible fuel diversification. It might also provide us the opportunity to develop carbon capture — a technology sorely needed if humans are to address climate at a global level.
And finally, regional planners like ERCOT need to think through and plan for these possible tail risk scenarios. Most of these gas plants are exposed to the elements rather than having some kind of structure to shelter key equipment. And the upfront costs of constructing those types of shelter are a small price to pay compared to the cost of a natural disaster.
So yeah, lots of mistakes were made across the board. Lefties, right-wingers, governments, citizens, wind, solar, gas, coal, nuclear, regulators… everyone.
The best thing to do is learn from those mistakes and all work together toward a common goal so we can prevent a “next time”.
*Steps down from the soapbox.*
I understand the tendency to chase energy prices higher here. But I think this trend has largely played out in the near term, and I’d rather take the other side of natural gas prices later, once the weather begins to warm up.
But the combination of wellhead shutdowns, declines in completion crews, and refinery shutdowns means that oil and gasoline production is going to fall short for a while.
Of the two, oil production will come back the quickest, and the price will likely turn around then.
However, the price increases over the past couple of weeks will be just passed on through to customers at the gas pump.
That sets us up for a short oil, long gasoline play, of which a 0.25 tranche in the United States Gasoline Fund (NYSEArca: UGA) is the easiest move to make today.
Refiners will remain offline for a few days as temperatures thaw out, and demand will continue to increase as winter rolls into spring and an increasingly vaccinated population begins to return to the office.
I’ll monitor the remaining plays on gas and oil for an entry point, but that may take a while given current weather outlooks.
So, in the meantime, just stay warm and be well, everyone… most especially our friends in the Lone Star State.
All the best,