1/26/2012 5:39 PM ET|
Why not drill for natural gas?
For all the talk of energy independence and with oil prices ready to spike higher, natural gas production is being cut. Here's why, and what it means for energy investors.
It is the best of industries; it is the worst of industries.
And I think the energy position in your portfolio ought to reflect that U.S. oil stocks and natural-gas stocks are headed in opposite directions. The underlying fundamentals of liquid hydrocarbons are so different from those of gaseous hydrocarbons in the U.S. market that the odds are that 2012 will bring higher share prices for U.S.-oriented oil producers and stagnant prices for U.S. natural-gas producers.
Unfortunately for bottom fishers, I think the trends that have put natural gas in an energy deep freeze are set to last for a while.
This has repercussions that extend well beyond the stocks of oil and gas producers, because the conditions in these two energy sub-industries will have a huge effect on drilling-and-service companies and on chemical producers.
A tale of 2 directions
Here are two deals from Monday, Jan. 23, that sum it all up.
Chesapeake Energy (CHK, news) announced that it would cut the number of rigs drilling for natural gas to 24 by the second quarter of 2012. That would be a 50% drop from the current rig count and a 67% decrease from the average rig count in 2011.
But Chesapeake isn't cutting only its exploration and development activity. It's also going to cut natural-gas production by approximately 500 million cubic feet per day. That's a decrease of 8% from the company's current natural-gas output and equals about 9% of total U.S. natural-gas production. If prices don't rebound from current levels of $2.61 per thousand cubic feet at the Henry Hub for natural gas, the company is prepared to take another 500 million cubic feet a day out of production.
Contrast that with this story out of Apache (APA, news) on the same day. Apache will pay $2.85 billion to buy Cordillera Energy Partners, a company with oil and natural-gas reserves in Oklahoma and Texas. Oil and natural-gas liquids make up 53% of Cordillera's production. In the deal, Apache will acquire 254,000 net acres of drilling rights and proven reserves of 71.5 million barrels of oil and natural-gas equivalents and an additional 234.5 million barrels of probable or possible reserves.
Why did Apache buy at a time when Chesapeake is shutting production? Here's the simple math, according to Apache: The value of production of a dry-gas well (one without liquids) is about $3 per thousand cubic feet. A natural-gas well with liquids would yield products worth roughly $7 per thousand cubic feet.
ConocoPhillips cool to gas, too
Other oil and natural-gas producers in the United States basically confirm this math with their actions. When ConocoPhillips (COP, news)reported fourth-quarter earnings on Jan. 25, it announced it would shut 100 million cubic feet per day of natural-gas production out of its total U.S. and Canada production of 2.5 billion cubic feet per day. The reason, CFO Jeff Sheets told analysts and investors, is that the price of natural gas hit a 10-year low in January and may remain soft for the next year or two. Prices need to rise to $5 or $6 per thousand cubic feet to generate long-term supply, he added.
Nevertheless, ConocoPhillips reported earnings (excluding one-time gains) of $2.02 a share for the quarter -- 22 cents a share above the Wall Street consensus -- on increasing oil production. ConocoPhillips' oil production in the United States will keep climbing, too. The company said, as its production of liquids from its shale reserves in the Bakken, Permian and Eagle Ford formations will rise from the current 120,000 barrels per day toward 270,000 barrels per day.
ConocoPhillips' Sheets may be a bit optimistic about how long natural-gas prices will remain depressed. Despite the current deep slump in gas prices, the U.S. Energy Information Administration recently raised its estimate for growth in natural-gas production through 2035 by 7%. Natural-gas prices will remain below $5 per thousand cubic feet on average over the next 10 years.
To drill or not to drill?
From a simple supply-and-demand perspective, increasing production growth when prices are so low doesn't make sense. But there's really nothing simple about natural-gas supply and demand. In the rush to stake a claim to the most acres of potential natural-gas production in the new gas shale regions, such as the Marcellus shale formation in the Northeast, natural-gas companies have wound up with a huge backlog of drill-'em-or-lose-'em leases.
Under the terms of these leases, if the natural-gas company doesn't show evidence of trying to develop the lease in some period -- usually five years -- then the lease rights lapse. Don't drill? Lose the lease. Drill and don't produce any natural gas? Then you can't afford to finance your development activity.
Only the deepest-pocketed natural-gas producers (such as ConocoPhillips) or those that have sold off substantial lease acreage when prices for such deals were solid (such as Chesapeake) can afford to cut back on production.
For example, Cabot Oil & Gas (COG, news) hasn't yet curtailed either production or its drilling program. The company is counting on cash flow to fund its $850 million to $900 million drilling program in 2012, which would add more than 100 wells and raise production by as much as 55% this year, by company estimates. Wall Street analysts have recently questioned Cabot's math, saying the company looks about $75 million short of funding that capital plan. The company disputes those calculations.
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During his State of the Union Address to a joint session of Congress Tuesday, Obama noted, "We have a supply of natural gas that can last America nearly 100 years. And my administration will take every possible action to safely develop this energy."
"Experts believe this will support more than 600,000 jobs by the end of the decade. And I'm requiring all companies that drill for gas on public lands to disclose the chemicals they use. Because America will develop this resource without putting the health and safety of our citizens at risk," he said.
Typical, eh. Obama wants to invest more money in Natural Gas now when the ones that are drilling are backing off for lack of return. Then he blocks the Canadian pipeline that may produce half of those 600,000 jobs he wants to create. I just don't get it.
Good for you 72. So what's your problem? When it comes to non renewable resources it's drill and use now and freeze later if you are referring to heating needs.
There's a huge overseas potential as well.
With oil becoming scarcer, natural gas is probably the most immediately available substitute for combustion engines. Given the growth of emerging markets, it's hard to see a world in 20 years that has enough oil.
Hey upperdoper, how did you manage to post that message? Was it on an electronic device connected to an electronic network, all powered by electricity derirved from....wait for it....oil or natural gas? Yeah hypocrite, that's you.
....? US is mostly coal powered. Nuclear and Nat Gas make up other large segments. With increasing amounts from wind/solar/other renewables.
Oil is hardly ever used for electricty here. Unless it's diesel generators, which are a very small percentage of the total electrical output.
Anyway what difference does it make, we are going to drill, drill, drill. Energy is like food, we need it.
Like anything else (19th century railroads, 21st century homes) watch out for over drilling if you are an investor.
Typical, eh. Obama wants to invest more money in Natural Gas now when the ones that are drilling are backing off for lack of return.
The drilling price for gas is incredibly cheap. Even at these low rates, they still make money. But they obviously want to make *more* money cause just making something is never enough where corporations are concerned.
Then he blocks the Canadian pipeline that may produce half of those 600,000 jobs he wants to create. I just don't get it.
That pipeline will not produce 300,000 jobs. Go look at any study and find that number. The *consistent* estimate is anywhere from 5,000-35,000 jobs could be created on the pipeline.
And it's going to go thru, they are looking for an alternate route, then it will be approved. Which is what should happen to protect the Nebraska Aquifer, which given the coming scarcity and expense of water globally in the next few decades, that aquifer is an *important national strategic asset*
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