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The Way She Moves, Part 2 - A Deep Dive into the Process, Quirks and Idiosyncrasies of U.S. Natural Gas Pricing

The U.S. natural gas market is one of the most transparent, liquid and efficient commodity markets in the world. Physical trading is anchored by hundreds of thousands of miles of gathering, transmission and distribution pipelines, and well over 100 distinct trading locations across North America. The dynamic physical market is matched by the equally vigorous CME/NYMEX Henry Hub natural gas futures market. Then, there are the forward basis markets — futures contracts for regional physical gas hubs. These primary pricing mechanisms play related but distinct roles in the U.S. gas market, based on when and how they are traded, their respective settlement or delivery periods, and how they are used by market participants. In today’s RBN blog, we take a closer look at the primary pricing mechanisms driving the U.S. gas market.

In Part 1, we began with a trip in the way-back machine to see how these pricing systems — including the processes for price discovery and transparency — even came to be in the U.S. gas market in the first place. We recounted the shift of physical gas trading from a primitive market with long-term deals done only between producers and pipeline owners at regulated prices to a burgeoning spot market with no price controls and “open access” on pipelines for others besides pipeline owners to use transportation capacity to ship gas. That era of decontrol and restructuring of the pipeline industry was followed by a period of minimal regulatory oversight in which independent publishers — price reporting agencies (PRAs) — took on the role of carrying out price discovery and dissemination. That worked until it didn’t. The Enron debacle in the early 2000s forced a hard look at manipulation issues that influenced published price indices and brought the Federal Energy Regulatory Commission (FERC) back into the picture.

FERC put in place strict price-reporting and ethical guidelines for those companies that choose to report trades to PRAs. And, starting in 2009, market participants who buy or sell an annual minimum of 2.2 trillion British thermal units (TBtu) in the physical day-ahead or month-ahead market — i.e., the kind of transactions that either impact or are impacted by PRA indices — also were required to submit Form 552 each year, reporting all purchases and sales of gas by quantity and type of pricing mechanism. That resulted in the robust Form 552 dataset, including volumes for fixed-price deals (negotiated prices between counterparties) and index-price deals (transactions based on a PRA-published index) for next-day and next-month delivery.

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