The current cultural environment and political discourse have put the importance of natural gas into the spotlight.

This should be no surprise, considering that it is an important source of energy which is used for numerous crucial things that we take for granted in our daily life.

The above chart gives a perspective of the different energy sources that are globally used and how it has changed over the past 200 years.

After oil and coal, natural gas is with about 24% of our energy mix, the 3rd largest energy source.

In order to appreciate its importance, here are some main use cases:

• The electric power sector
  • In most countries, a huge amount of electricity gets produced with natural gas. Although, the percentages vary a lot depending on the country (in the U.S.A 33%, Japan 20%, Germany 12%)
• The industrial sector
  • used as fuel for heating
  • to produce chemicals
  • to produce fertilizer
  • to produce hydrogen
• The residential sector
  • to heat buildings and water
• The commercial sector
  • to operate refrigeration and cooling equipment
  • to cook
  • to dry clothes
  • for lightning
• The transportation sector
  • compressors which move gas through pipelines
  • as vehicle fuel

To sum it up, natural gas is a very important commodity for the economy. If the price rises, it can be a good sign because, it means that the economy is expanding and therefore the demand is high.

On the other hand, it can also be an alarming sign, since it means higher costs and makes the operation of businesses more expensive, which in turn acts as a break for economic growth. Further, it is generally a negative experience for consumers who as a consequence see their electricity bills rise.

Thus, if a price increase is caused not by increasing demand, due to an expanding economy, it can be seen as a negative sign, since it has negative effects on the economy.

The chart shows the development of the natural gas price since 1990. As can be seen, it tends to have sudden large spikes in the price. These massive spikes tend to occur when there is huge market turmoil, such as during the California energy crisis, the 2008 financial crisis and now.

It is also no surprise, that natural gas has a high correlation with oil. Reasons for this correlation are:

• General energy demand increases price in both energy sources
• Many Exploration & Production companies also produce both natural gas and oil, therefore they will shift their focus and expenditures between them with regards to the higher profit margins.
• Many oil wells produce oil with the byproduct of natural gas, hence if they increase their oil production, they will automatically increase the byproduct as well. In addition, if the gas price is high, they will focus on increasing the efficiency of getting as much of the byproduct as possible.
• Substitution: From the demand side there are many use-cases in which oil and gas can substitute each other, such as electrical power. Consequently, if one energy price rises, electricity companies will shift their energy composition towards the other one.

However, the correlation is not perfect and there are also periods, in which this correlation completely ceases to exist. For instance, the spikes that happened in 2000 and 2005 did not occur in the oil market. Adila McHich from the CME Group has the following explanation:

Natural gas is more prone to short-term price shocks and supply imbalances due to seasonality, storage dynamics, and weather-related events, which tend to increase the volatility and cause disequilibria to the short run oil and gas linkage.

In addition, after the huge decline after the 2008 financial crisis, oil experienced a period of substantial price increases until it crashed in the fall of 2014, whereas the price of natural gas basically went sideways until recently.