We expect that NYMEX natural gas prices below the following thresholds will induce considerable responses in the supply-demand balance:

At $12.50/ton PRB coal, we estimate that 1.8 Bcf/d of incremental demand potential from combined cycle gas turbines (CCGTs) becomes competitive against PRB coal-fired power plants at NYMEX natural gas prices below $2.75/mmBtu, with another 1.7 Bcf/d of incremental gas demand becoming competitive below $2.55/mmBtu. While much of the coal sales for 2012 are already contracted at levels at or above our forecast, should prompt PRB coal prices remain near their current level of $10.60/ton, these thresholds could drop to $2.55/mmBtu and $2.35/mmBtu, respectively.

If PRB coal-to-gas switching fails to materialize in sufficient scale, or quickly enough, natural gas prices are moving toward where we would expect to see some curtailment of natural gas production. More specifically, our GS Equity Research colleagues see average operating costs for natural gas producers running in the $2.30-2.40/mmBtu range, including elements such as SG&A which may be viewed as fixed costs by some producers, with pure cash costs running closer to $2.00/mmBtu.

Eoin Treacy's view Unseasonably warm weather coupled with a supply glut have put severe downward pressure on NYMEX natural gas prices. As a result sentiment has deteriorated to a bearish extreme. However, it is important to remember that the natural gas market does not exist in a vacuum. Such depressed pricing encourages demand. The lower prices decline the more compelling substitution becomes.

Natural gas prices accelerated lower from early January, extending a seven-month downtrend. Prices are oversold by just about any measure. Today's upside key reversal reflects some short covering. However, the fact that the advance was not held through to the close suggests additional follow through tomorrow will be required to indicate mean reversion in underway.