Investing in natural gas

Justice Litle - Mon 25 Sep, 2006

...In the next few decades consumption of natural gas is expected to rise more than 20%. Is this an opportunity to invest and profit?...

 
 
"You're seeing the earliest phase of natural gas history
for the next 30-50 years...energy use goes in 50-year
swings. You had wood, then coal, then oil and now
natural gas." - Fred Barrett, natural gas executive
(quoted in The Wall Street Journal)
 
Energy pop quiz: In what century was the natural gas
pipeline invented? A ballpark estimate will do. Take a
moment to think about your answer.
 
Clearly, it wasn't the 20th - that would be too easy. If
you guessed the 19th century, you're still out of luck.
Eighteenth? Nope. Seventeenth? Still nowhere close.
 

Investing in natural gas: China

As with many other inventions far ahead of their time,
credit for the first gas pipeline goes to China. The
Chinese built the original natural gas transport system
out of bamboo poles. Chinese merchants used the gas to
evaporate seawater and harvest the salt left behind.
(Salt was a booming business back then, as it still is
in some parts of the world today.) Confucius documented
the existence of natural gas aquifers and bamboo
pipelines circa 600 BC. The Greeks actually discovered
the "burning springs" as far back as 1,000 B.C. - but
unlike the Chinese, they didn't come up with a
commercial use for the stuff. Around 100AD, the king of
Persia hit on the novel idea of using natural gas in his
kitchen. Rather than bring the gas to the stove, though,
the king did it the other way around. He had his royal
kitchen built in close proximity to a gas spring, where
the seepage fuelled a continuous hot flame.
 
By the late 18th century, Britain was using manufactured
gas (produced from coal) to light houses and
streetlights. Baltimore was one of the first American
cities to be lit this way, in 1816. Five years later,
gunsmith William Hart dug the first designated natural
gas well in Fredonia, New York. Hart, regarded by many
as the Father of American natural gas, later founded the
Fredonia Gas Light Co. - the first company of its kind.
One of the key commercial developments for natural gas
was the Bunsen burner, conceived by German scientist
Robert Bunsen in 1885. Bunsen's regulated mix of gas and
air offered a convenient way to tame the flame, and thus
greatly increase the safety and precision of its use.
 

Investing in natural gas: Demand

Demand for natural gas continues to rise. The US Energy
Information Administration (EIA) expects natural gas
consumption to increase more than 20% over the next few
decades. Natural gas for electric power generation is
expected to rise by more than 60%. This is largely due
to its favourable profile as a low-particulate, clean-
burning fossil fuel. Yet for all the steady rise in
demand, production has been nearly flat for quite some
time now. US production growth alone over the last 10
years has come in at well under 1% annualized.
 
This snail's pace is not due to sloth on the part of
natural gas companies. The problem is that we are
largely running to stand still. Existing wells are being
depleted faster than new wells can be developed.
Christopher Edmonds of Pritchard Capital Partners
reports:
 
"The average natural gas well in North America is
experiencing accelerated decline rates. This year, the
average well will post 30%-plus decline rates. That
means we have to come up with that 30% decline in new
production just to keep production flat. Simply, the
production treadmill is moving faster every year...
=Even an increase in wells hasn't helped. We have seen a
nearly 50% increase in the number of producing natural
gas wells since the beginning of this decade, and
production has barely moved. It takes more wells -
because yield per well continues to decline - just to
keep production at existing levels."
 

Investing in natural gas: Reserves

America still has some pretty impressive swathes of
untapped gas reserves tucked away. The problem is that
most of those reserves are politically restricted, too
hard to access or otherwise off-limits for various
reasons. As with crude oil refineries, natural gas is an
industry in which NIMBY and BANANA politics very much
apply. (NIMBY = Not in My Backyard, BANANA = Build
Absolutely Nothing Anywhere Near Anybody.)
 
Alaska has significant quantities of gas, but building a
pipeline to the lower 48 would be wickedly expensive.
Liquid natural gas holds significant possibility and
meets only 3% of our current needs, but getting enough
LNG terminals built poses a real headache. In the event
of human error or terrorist attack, a burning LNG tanker
could produce a fireball intense enough to burn someone
a third of a mile away. Not the most appetizing prospect
for local communities. There is also the matter of
aggressive bidding from multiple countries for currently
available LNG supplies. Capacity is swamped by demand.
LNG is another promising area in which the
infrastructure bottleneck is slowing things to a crawl.
 
Given the bullish long-term perspective, natural gas has
nonetheless been driven down by bearish sentiment in the
short to intermediate term. An unseasonably mild winter
this past year, plus hefty storage numbers approaching 3
trillion cubic feet as of this writing, have both pushed
natural gas futures to almost two-year lows.
 
It won't take much for this pessimistic picture to turn
on a dime. Bloomberg reports that "Natural gas has
rallied in September in three of the past four years.
Those gains were 21% in 2005, 34% in 2004 and 26% in
2002." A nasty winter, or even just a normal one, could
affect things greatly. Industry executive Fred Barrett
tells The Wall Street Journal that "It only takes five-
10 days of cold weather to wipe out about 400-500
billion cubic feet of gas."
 
And unlike last year, The Farmer's Almanac, which has a
highly respectable track record for seasonal
predictions, says we can expect bitter cold and plenty
of snow for the winter ahead. Nor can future hurricanes
be ruled out. Climate fluctuation ranges are expected to
increase in coming years, as are tropical storms. The
deep waters of the Gulf, a recent source of new supply
hopes, are practically hurricane central.
 
 
Regards,
 
Justice Litle
for The Daily Reckoning