Thursday, June 16, 2011

Where to Go?

Some say transportation should be a market grail for natural gas, while others aren't so sure

This article appears in the second volume of CSUG's Energy Evolution Guidebook & Directory
By Peter McKenzie Brown
In his best-selling 1958 book The Affluent Society, Canadian-born economist John Kenneth Galbraith popularized the concept of conventional wisdom. “It will be convenient to have a name for the ideas which are esteemed at any time for their acceptability, and it should be a term that emphasizes this predictability,” he wrote. “I shall refer to these ideas henceforth as the conventional wisdom.” The problem with conventional wisdom is that it isn’t always true. Contrarians are often right.

Price Bull
It’s worth keeping that truism in mind as we develop the case for building new natural gas markets in North America. In a recent comment, author and analyst Peter Tertzakian argued that the rapid decline in drilling for natural gas across North America raises the question of whether natural gas is likely to continue to be in a serious state of oversupply. Tertzakian notes that for the first time in 15 years half of the US drilling fleet is drilling for oil, compared to less than 20% of rigs for the last decade. Such a dramatic decline in drilling almost certainly suggests that production levels will decline, he suggests.

He then moves on to the killer argument: “Let’s say (gas) production starts retreating in earnest this year and natural gas prices rise back to some fictional level like six dollars per MCF. Notionally, the (conventional) wisdom goes that producers will dispatch more rigs to ramp up production and thus clobber prices again. There is a problem with this line of thinking: why would producers do that when more money is to be made elsewhere?” He suggests that as long as oil is valued at more than four times the value of gas (energy equivalency basis), there is little motivation for the industry to shift toward more gas drilling. The result? Declining supply and still higher gas prices until a cost-reward rebalance restores aggressive natural gas drilling.

Supply Bull
Since Tertzakian is such an unusual voice in the wilderness, the balance of this article assumes that the conventional wisdom is true. Gas supplies are likely to continue to be plentiful, and there will continue to be a need to develop new markets. One of the most interesting advocates of greater markets is the legendary oilman T. Boone Pickens, who says he has invested $70 million in developing and promoting The Pickens Plan.

An 83-year-old geologist who received his degree in geology in 1951, as a young man the Texas-born Pickens spent a decade in Calgary. In a broadcast interview, he said he opened an office in Calgary in 1959, and lived in the province with his family in the 1960s. After moving back to the United States, he made a multibillion-dollar fortune in exploration and development and, much more publicly, as a corporate raider. His current passion is to promote the Pickens Plan.

“For 40 years the United States has had no energy plan,” he explained. “We’ve just been drifting. Just drifting means you are just importing more oil from the Middle East, countries that the state department recommends we not visit.”

Pickens is adamant that the United States should reduce its dependency on overseas oil, and he believes that renewables like wind and solar aren’t viable anymore because of cheap gas.

“Natural gas is the only thing we have that can replace non-North American foreign oil. We import 5 million barrels from the Mid East. That’s the oil I want to replace with gas. If you had 8 million 18-wheelers (in the US trucking fleet fuelled with natural gas), that would cut OPEC imports in half.” He added, “If the US administration announced that from now on all new government vehicles would use domestic fuel that would be a powerful message to send to the world.”

“This is a security issue for me. I don’t want to be dependent on the enemy for energy,” he said. Until gas prices cratered, Pickens was a strong advocate of wind energy, and he was leading an effort to finance a multi-billion dollar wind farm in the Texas Panhandle. He uses this fact to support his green credentials. “Natural gas is 30% cleaner than diesel. We have the cleaner, cheaper, abundant fuel here, and it will replace the dirty fuel from the Mid-East.”

Pickens is also an advocate of continental fuel switching – in particular, substituting natural gas for coal in power generation facilities.

For many years most commentators have believed that the United States could never become self-sufficient in energy, Pickens said, but “things have changed. We have so much natural gas – the US has a 100 years supply, and the Canadians have a lot up in Horn River, for example, and the Canadians have a lot of oilsands (oil). Let’s use that to make North America energy self-sufficient.” He added, “When people say to me, ‘Hey, Pickens, I don’t like your plan!’ I say ‘Fine, what’s your plan? If you don’t have a plan your plan is to import more oil from the Middle East.’”

Not many oilmen are as colourful as T. Boone Pickens or as motivated by worries about enemies in the Middle East. However, there are a lot of other natural gas supply bulls.

Exxon-Mobil, for example, demonstrated its belief by plunking down $31 billion for gas-focused XTO Energy a year and a half ago. A company vice president, William Colton, recently told the New York Times that “If there is any kind of major trend, we think it’s going to be a shift toward more natural gas.” He added that “Natural gas is available. It’s the most efficient way to generate massive power. It’s affordable. We already have gas infrastructure in place. From a CO2 emissions standpoint, it’s 60 per cent cleaner than coal, and (the U.S. has) 100 years of supply.”

Agency Bull
America’s Energy Information Agency, whose job is to forecast supply and demand based on best-guess current trends, doesn’t appear to see much of a plan to promote greater use of natural gas anywhere in the future. According to the early-bird version of the 2011 forecast, “Non-hydro renewables and natural gas are the fastest growing fuels used to generate electricity, but coal remains the dominant energy source for electricity generation because of continued reliance on existing coal-fired plants” well into the foreseeable future.

According to the EIA, the agency has revised its methodology for gas prices “to better reflect a lessening of the influence of oil prices on natural gas prices, in part because of the increase in shale gas supply and improvements in natural gas extraction technologies.”

Of course, as Peter Tertzakian argues at the beginning of this article, it might be a mug’s game to discount energy equivalency too deeply when you are calculating the relative values of oil and gas.

Whatever methodology the organization uses, the EIA does forecast an increase in North America’s natural gas demand, but its estimates seem paltry compared to the aggressive development that T Boone Pickens, for example, is promoting.

The agency forecasts a strong near-term increasing demand because of a “strong recovery in near-term industrial production, growth in combined heat and power, and relatively low natural gas prices.” Look farther out into the future, however, and the agency’s forecasters are more circumspect than the gas supply bulls. “U.S. natural gas consumption rises 16 percent from 22.7 trillion cubic feet in 2009,” they intone, “to 26.5 trillion cubic feet in 2035.”

Such a small increase in forecast demand – 16% over 25 years – suggests that the EIA’s gas supply bulls aren’t as optimistic as Pickens; he might complain that they “don’t have a plan.” You could equally argue that there are contrarians among them.
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