Gas Storage Pricing and Hedging

Cyriel de Jong

THE ROLE OF STORAGE IN NATURAL-GAS MARKETS

Storage plays a vital role in competitive natural-gas markets, because the average variability in the consumption of natural gas is much greater than the average variability in production. Historically, natural-gas storage has been used for two key functions. First, it provides local distribution companies with adequate supply during periods of heavy demand by supplementing pipeline capacity and serving as backup supply in case of an interruption in wellhead production. Second, storage enables greater system efficiency: instead of satisfying winter demand by adding new production facilities, the industry can maintain production at a much more constant level throughout the year. Finally, during periods of significant changes in supply or demand, storage ensures pipeline integrity is maintained.

As part of the liberalisation process in many countries the natural-gas storage service has been unbundled from the sales and transportation services, meaning that storage is increasingly offered as a distinct, separately charged service. In combination with the development of active spot and futures markets, it becomes possible to adjust