Generally, natural gas processing companies such as MarkWest Energy (MWE), Targa Resources (NGLS), Regency Energy (RGP), and Copano Energy (CPNO) realize more profits when natural gas liquids increase in price relative to natural gas (for a detailed explanation of why please refer to the article “Why fractionation spreads affect some MLP stocks”). Last week, natural gas liquids (NGL) prices fell more than natural gas ultimately resulting in a negative indicator for gas processing names such as the ones mentioned above.
The above graph represents the “fractionation spread” or “frac spread” over the past year, which is a rough indicator of profitability for some natural gas processors. Frac spreads are dependent on natural gas liquids and natural gas prices. (for a detailed explanation of fractionation spreads please refer to “Why fractionation spreads affect some MLP stocks” and “An in-depth look at the mechanics of fractionation spreads”).
Last week natural gas liquids prices moved downward more than natural gas prices. Frac spreads compress when NGL prices decrease and natural gas prices increase (or decrease less than NGL prices). Last week’s upward movement in natural gas liquids prices was likely because NGLs tend to follow crude oil movements, and oil moved lower last week over concern about growing US supply and upcoming refinery outages (which would lead to less US demand).
Note: The custom frac spread is based upon assumptions provided by Ceritas Group. To see how the custom frac spread is calculated, please refer to the article “An in-depth look at the mechanics of fractionation spreads”.
Fractionation spreads moved down on the week. Frac spreads have recovered somewhat from June 2012 lows, though they’re still significantly below where they were a year ago as seen in the below graph.
For a period, frac spreads increased to $40-50/bbl due to depressed natural gas prices while NGL prices had remained relatively robust. Over the last year, frac spreads have declined largely due to the sharp drop in prices in ethane and propane (see chart below).
This has been a consequence of the “shale revolution” boom, as natural gas shales rich in NGLs have experienced rapid development, resulting in the market being flooded with new NGL supply. While the excess supply of ethane and propane had been absorbed at first by the chemicals industry, much of the capacity for chemical companies to process ethane and propane has been soaked up. Future articles will further discuss the dynamics of other NGL prices.