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The bright future of natural gas

April 2nd, 2009 · No Comments

We found a nice article about natural gas. It’s largely about the US situation (prices in Asia are much higher and haven’t fallen by nearly as much), but it underscores some longer-term developments why the future of this relatively clean burning fuel is bright..

Natural Gas: Short Term Bear, Long Term Bull
by: Larry Bellehumeur April 02, 2009

Funny how times can change in the world of oil/gas… even scarier is the pace at which they can change. Natural gas is trading at about 70% lower than its peak of close to $14 per 1000 cubic feet in just 8 short months. This is in spite of the fact that we are just finishing the North American winter heating season. It’s hard to think how low it may go in the summer, especially if this summer proves to be relatively cool (reducing the demand for Natural gas to produce electricity).

Further aggravating the problem is the fact that there is an awful lot of supply coming onto the market. This is especially true in some of the fields that are now being tapped for the first time with the creation of new drilling/fracturing techniques. These include some of the shale areas such as Barnett, as well as the Montney play in northeast BC / North-West Alberta in Canada. Finally, extra storage is being built all the time for LNG (Liquified Natural gas) in the US/Canada ports. One has to wonder if some of the excess supply in other parts of the world might end up in these places, further adding to oversupply.

In response to the lower prices, producers have scaled back dramatically on drilling new holes. Recent numbers from Baker Hughes shows that rig utilization in the US is down about 40% from the peak last summer. The numbers are worse in Canada, where utilization is down by close to 75% for the peak in late 2005.

So…things look bleak for the short-term for Natural gas. But, what does this say for the long-term (in my books, this means 3-10 years)?

Some things to make me a long-term bull on Natural gas:

1) Oil Sands

* Even as an Albertan who is benefiting financially from the development of the oil sands, I’m still a bit amazed that we are burning clean natural gas to produce oil.
* For those of you who aren’t aware, natural gas is used as a fuel to heat the steam to liquefy the oil sands into a liquid form. It is then often used as a fuel source for many of the generators that refine it into usable gasoline and other liquids.
* Natural gas use in the oil sands is projected to jump from 700 million cubic feet in 2006 to a projected 2+ billion cubic feet by 2015 (this is according to The National Energy Board). With the recent slowdown in the oil sands, it may take an extra year or two to get to this level, but in any case, the rise is substantial.
* There has been talk of using nuclear power for this process, but with the long planning / construction time needed for these projects, it doesn’t look encouraging.

2) Electricity Generation

* Currently, a little less than 20% of the electricity used in the US is produced through the burning of natural gas. This percentage is not likely to go down anytime soon, and may in fact rise as some of the older coal plants are shut down.
* With the total world-wide electricity use expected to double (from 13.9 trillion kilo-watt hours in 2001 to 24.7 trillion kilo-watt hours in 2025), it can easily be projected that natural gas use in electrical production will see a significant rise.

3) Fuel for Vehicles

* I can see it now…this point is going to gather more attention that it should. I don’t want to start a debate on whether we should be using natural gas to power our cars.
* I’m not fully convinced that we will see a tremendous growth in the use for natural gas for vehicles, but considering the aggressive initiatives taken by President Obama, it could very well happen. At the very least, the use of natural gas for vehicles should not decline any time soon.

4) Oil vs. Natural Gas

* It is generally recognized that a barrel of oil is equivalent to about 6000 cubic feet of natural gas. I’ve seen this number as low as 5400 to as high as 9000, depending on a lot of factors. However, 6000 is generally recognized by most in the oil industry.
* Using the conversion, oil is currently trading at over 12x the price of 1000 cubic feet, meaning that you would get twice the “bang for your buck” using natural gas as a heating/energy source than oil.

Many facilities in the industrial space are capable of switching between the two sources, depending on availability and price. If this spread continues for much longer, natural gas will become the preferred choice.

5) Industrial Use

* Natural gas is used extensively in many industrial areas from chemical production to fertilizer to the production of steel and other metals.
* With the recent economic turmoil, there has been a significant reduction in the production of many of these items. This won’t last forever.
* Once there is a sign of economic recovery, many plants will fire up at full capacity immediately (as much of their inventory will have been depleted).

6) Hurricane (fill in the blank)

* Most of the points above are longer-term catalysts to a recovery in the price of natural gas. This one would not fall under that category.
* With a significant portion of natural gas production either done in the Gulf of Mexico or stored there, a significant hurricane strike to Louisiana, Eastern Texas or to the Gulf platforms themselves could put an immediate lift in natural gas prices.
* This would be even more dramatic, as it would be more difficult to “turn up production” with many idle rigs.

So, I am definitely bullish in the long-term on natural gas. To play this, I have strong positions in natural gas producers (EnCana (ECA) and Canadian Natural Resources (CNQ)), as well as Natural Gas Servicers and Rig Owners (Transocean (RIG), Weatherford (WFT) and Schumberger (SLB)) and Energy Infrastructure (TransCanada (TRP) and Hanwei Energy Services).

Disclosure: Long ECA, CNQ, SLB, WFT, RIG, TRP, HE-Toronto.

We would add to point three above that electrical vehicles will substantially increase electricity demand, and hence demand for natural gas..

And of coarse, we know another natural gas player that will start producing at the time these trends could be in full swing.. InterOil.

Tags: Natural Gas