Energy Diversity Is Key to Managing Operating Costs

The extreme cold temperatures brought on by the Polar Vortex this past winter brought with it a steep spike in natural gas prices. Wholesale prices more than tripled, according to the Wall Street Journal and then suddenly returned to near normal. Time Magazine referred to the situation as a “rollercoaster.”

The price spike may have been due to an isolated period of capacity constraint, but couple that reality with rising demand for natural gas, and many forecasters see continued volatility in the near term. The factors that contribute to natural gas price instability are not likely to go away soon. As such, a smart strategy for many operators is to invest in infrastructure that provides opportunities to choose the fuel that meets their immediate needs.

In an unstable and dynamic market, possibly the greatest asset in managing energy costs is building an operation and infrastructure that can take advantage of diverse fuel sources. These options may include storage or natural gas, oil, purchased electricity, or other renewable energy resources such as wind and solar.

Dynamic Conditions Create Price Volatility

Given this past winter’s steep spikes in the price of natural gas, there were periods of time when it was a significantly cheaper to burn oil—a situation many had thought unlikely given the abundant natural gas resources in the US.

Industry insiders, such as T. Boone Pickens, thought that U.S. oil production had hit its peak in the 1970s. “How wrong we were,’ Pickens writes. “The industry, driven by the innovation that marks private enterprise, has—once again—innovated. With stunning technological advances (chiefly the combination of fracking and horizontal drilling), we now have more energy reserves than any other nation on earth. Not only that, we have the cheapest in the world, too.”

Domestic oil production has significantly increased, which is keeping prices stabilized. For example, North Dakota is now producing more than one million barrels of oil a day, which is up from 200,000 barrels a day five years ago. Overall, domestic crude oil output is at a 25-year high. If domestic oil production continues on the same path, an industry whitepaper notes that the energy price spread between natural gas and oil may shrink.

Electricity Prices Rise

The U.S. Energy Information Administration’s (EIA) short-term energy outlook in June reported that electricity prices charged to the commercial and industrial sectors are 4.8% and 4.6% higher (respectively) than the previous year. This follows the winter months where natural gas price spikes also brought volatility to the electricity market.

In addition, according to the EIA, peak to average ratios have increased, particularly in New England where, “the highest peak-hour electric demand for the year in 1993 was 52% above the hourly average level while in 2012 peak-hour demand had risen to 78% above the hourly average level.” When peak demand is so much higher than average demand, it could adversely affect electricity prices as well as availability.

Solutions to Consider

A good way to mitigate unstable or high fuel costs is to maintain infrastructure that uses diverse fuel resources (such as oil, propane, LNG, CNG, biomass, bio-oils, solar, etc.). This ensures that you do not become too dependent on one fuel source and vulnerable to price spikes—creating diversity and options to control your energy costs.

What are your operation’s next steps?

  • Determine how much you spend in energy
  • Determine your fuel or energy source options
  • Determine what would happen if the price of any one commodity went up significantly
  • Determine how important price certainty is
  • Determine what are variable versus fixed purchases
  • Estimate cost for added infrastructure
  • Compare payback/return on margin in savings versus risk

The tradeoff for less risk is often higher capital costs and new infrastructure investments. Yet, from our view, it is critical to remain open to fuel options to mitigate that risk. Whatever the energy supply, the last ten years have provided numerous changes. We have seen expensive natural gas, cheap gas, and volatility. The outlook will likely be very different in 2025, but it appears that having energy options is valuable no matter what is going on in the US and world.

Read more about the factors that are driving natural gas prices higher and how to develop an energy procurement strategy.


Miles Walker

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