The Case For Higher Natural Gas Prices

Demand – Natural gas provides approximately a quarter of the nation’s energy supply. Natural gas is an attractive fuel because it is clean-burning and efficient. According to the Energy Information Administration (EIA), between 1985 and 2005, natural gas consumption increased about 30% from 17 Trillion cubic feet (Tcf) to 22 Tcf per year. The EIA forecasts that consumption of natural gas will increase by over 20% between now and 2030. The study forecasted renewable energy use doubling by 2030, but petroleum, coal and natural gas was still forecast to meet 83 percent of the total U.S. primary energy supply requirements in 2030.

Supply – U.S. natural gas production has been increasing and natural gas remains the primary domestic drilling target with an estimated 7,561 wells completed during the second quarter of 2008, a level 3% higher year-to-year and more than double the level 10 years ago. The recent drilling plays in Barnett shale and other shales around the country will continue to contribute significant gas production over the next 10-15 years.

Commentary- The current pace of U.S. natural gas drilling will most likely continue unless prices fall much further. It is still uncertain if the areas currently off limits to drilling will be opened and if offshore areas are opened to drilling, a current global shortage of drilling rigs will impede any rapid exploration. I would expect that U.S. natural gas supplies to remain flat with new supplies offsetting the decline in older maturing fields.

The EIA forecasts of renewables by the year 2030 appears to be very conservative, however it is difficult to make a substantial gain in their contribution when starting from such a small base. With regard to the mix of energy that will meet our future requirements, my belief is that the EIA is underestimating the impact of current trends in the use of coal-fired power plants. Many utilities have shifted away from coal or oil to natural gas to produce electricity. Concerns about global warming are blocking construction of new coal-fired power plants. The U.S. Department of Energy listed 151 coal-fired power plants in the planning stages in 2007. During 2007, 59 proposed coal-fired power plants were either refused licenses by state governments or quietly abandoned. In addition to the 59 that were dropped, another 50 were being contested in the courts. Nationally, natural gas provides from 20-25% of our electrical generations needs, however, in California natural gas accounts for 45% of the electrical generation. California, Florida and other states have restricted the use of coal and have blocked any new coal-fired power plants due to mounting concerns about climate change.

This concern over climate change will increase the demand for natural gas for electrical generation which will in turn put pressure on natural gas prices unless major new supplies of natural gas are developed. Demand could further increase if natural gas is used as transportation fuel. Chesapeake Energy has initiated a public education campaign called CNG NOW designed to promote the greater use of natural gas as a transportation fuel. Some indicate that nuclear energy will be developed, however, maintaining nuclear energy’s current 20% share of electrical generation will require building 3 reactors every two years starting in 2016 based on DOE forecasts. This would be a major accomplishment considering the fact that we have not built a new nuclear power plant in almost 30 years.

Another High-Potential Gas Shale That Is Intriguing

The Pearsall shale is an over-pressured shale natural gas play in the Maverick Basin of south Texas. The most active company in the play has been San Antonio-based TXCO Resources. EnCana and Anadarko Petroleum have also acquired large land positions in the basin. TXCO Resources holds 683,700 net acres and is exploring more than 20 productive zones. They have thousand’s of potential drilling locations. They plan to drill over 100 wells in 2008 and have drilled 60 wells to date. TXCO Resources first half of 2008 sales were up 49% from the previous year.

Texas’s Maverick basin on the Rio Grande has historically been unexplored. The majority of the basin is in Maverick county and a small section extends east into Dimmit County. EnCana Corp. has labeled the basin as an emerging play and have partnered with TXCO to explore the Pearsall shale. TXCO and its partners are utilizing horizontal drilling and advanced completion techniques as they seek to make the Pearsall into a predictable resource play.

Other potential in the basin include the Glen Rose formation which is highly porous and has produced some 5 million barrels of light, low-sulfur crude oil since 2002. The San Miguel heavy oil sands are in their early development stage. It was reported that the San Miguel has 7-10 billion barrels of tar/bitumen in place and perhaps another 100 million barrels of heavy oil. These sands are analogous to the Athabasca oil sands. TXCO has pilot projects under way to evaluate the San Miguel’s potential through the use of new recovery techniques. Steam is injected into an upper horizontal well and the heated bitumen/heavy oil and condensed water pumped from a lower horizontal well.

Commentary -  Since I live in the San Antonio area, it is interesting to report the activities of a local company. It appears that the largest upside for the Maverick Basin lies with the Pearsall shale. The Pearsall shale deposit occurs across the entire basin. The completion and fracturing techniques perfected in the Barnett shale play are being implemented in the Pearsall. The combination of experienced operators along with the new capital coming into the basin as a result of partnerships could develop the basin into a significant regional producer.

What Everyone Should Know About Energy Subsidies

The Federal Government spent $17 billion dollars in energy subsidies and support programs in 2007. These energy subsidies have more than doubled since 1999. A subsidy represents a transfer of tax revenues to the buyer or seller of a good or service that has the effect of reducing the price paid, increasing the price received or reducing the cost of production. The federal government promotes targeted energy outcomes through incentives such as tax credits, grants or low interest rate loans.

In 2007, most primary energy production received some type of subsidy, as did conservation and efficiency-related activities. Subsidies to renewable energy resources have been growing very rapidly. In 1999, renewable energy resources (wind, solar, biofuels, etc.) received $1.4 billion. By 2007, the renewable energy subsidies grew to $4.9 billion. Ethanol production received $3.0 billion in blender’s credits under the Volumetric Ethanol Excise Tax Credit. This tax credit provides oil companies with an economic incentive to blend ethanol with gasoline. The tax credit totals 51 cents per gallon on pure ethanol, 5.1 cents on E10 and 42 cents on E85. The blender’s credit expires at the end of 2010. Refined coal which is chemically enhanced to reduce certain emissions received about $2.4 billion in subsidies in 2007. The $3.8 billion of conservation and end-use efficiency subsidies is expected to reduce energy demand

Commentary -  United States energy production has remained roughly unchanged since 1999, despite the increases in energy subsidies and prices. However, the Production Tax Credit (PTC) for wind power has been a significant factor in encouraging wind capacity. On September 23, 2008 the Senate passed a bill to extend tax credits for wind, solar and geothermal energy, while granting a tax credit of up to $7,500 for consumers who buy plug-in electric vehicles. The measure now goes to the House for approval. With regard to ethanol, we are subsidizing the ethanol producers and the oil companies so they will blend the ethanol with gasoline. The only one that doesn’t receive a subsidy is the taxpayer.

Ike’s Impact on the Oil and Natural Gas Industry

The Minerals Management Services (MMS) reports that 28 of the 3,800 offshore producing platforms were destroyed by Hurricane Ike. Initial estimates indicate that the destroyed production platforms produced a total of 11,000 barrels of oil per day and 82 million cubic feet of natural gas per day. Additional damage reported includes 3 jack-up drilling rigs destroyed with one jack-up drilling rig with extensive damage. Two drilling rigs had been reported drifting but have been secured by tugs. Dallas based Ensco International Inc. has been unable to locate its Ensco 74, one of five Ensco jack-ups that were exposed to hurricane-force winds. The 74 was the farthest offshore.

Devon Oil inc. reported that just 20% of its Gulf production has been restored since Ike and Hurricane Gustav plowed through the region. Devon’s U.S. Offshore production is about 60% natural gas. Chevron Corp. said Hurricane Ike toppled several of its platforms in shallower Gulf of Mexico shelf waters. BP said the drilling derrick on its 100,000 bpd Mad Dog oil platform had toppled and fallen to the sea bed and it was too early to say when the platform could resume production. Shell Oil, the largest oil producer in the Gulf of Mexico, said initial inspections of its offshore facilities revealed only minor surface damage.

Onshore, 13 refineries representing about 19 percent of the U.S. gasoline and other fuels production capacity remained shut. Two of the largest U.S. refineries – Exxon’s Baytown, Texas, refinery and Shell’s joint-venture Deer Park, Texas, plant were restarting and are expected to be back on line this week.

Commentary -  MMS stresses that it expects reports of damages as inspections continue, but for comparison, final damage reports from MMS indicated that Hurricane Katrina destroyed 44 platforms and Rita destroyed 64 platforms. U.S. gasoline stockpiles, already running at their lowest level since November 2000, could drop to their lowest on record due to the effects of Ike according to a poll of analysts. The Energy Department released emergency crude to a handful of refiners having trouble procuring oil in the aftermath of the hurricanes.

The King of Energy: Texas

According to the Energy Information Administration (EIA), Texas leads the nation in oil and natural gas reserves and in non-hydropower renewable energy resources. Texas has about 25% of the total U.S. oil reserves and 30% of the nation’s natural gas reserves. Oil reserves are found throughout the state, however, the largest remaining reserves are concentrated in the Permian Basin of West Texas.  The Permian Basin contains more than 20 of the nation’s top 100 oil fields. Similarly, deposits of natural gas are found in abundance in several Texas production basins. Texas is also #1 in the following areas: total natural gas production, total energy consumption, total crude oil production and refining capacity, natural gas consumption, wind-powered generation capacity, wind power electric generation and electric consumption.

Although Texas oil production is on decline, the State’s signature crude oil type, known as West Texas Intermediate (WTI) remains the major benchmark of crude oil. The WTI is light and has low sulfur content. The quality is high and it yields a large fraction of gasoline when refined. Texas has 25 petroleum refineries that can process more than 4.6 million barrels of crude oil per day or one-fourth of the total U.S. refining capacity.

Commentary -  Texans are doing more than their share in providing Americans with abundant energy. It is time for other states to step up to the plate and rid the “Not in My Backyard” feelings that are preventing the oil and gas industry from building new refineries and drilling offshore in Florida, California and other areas, preventing nuclear power plants from being built and the start-up of renewable energy projects (wind and solar). All Americans need to work together to meet our energy needs and do it in an environmental friendly way without damaging the economy. The politicians in Washington cannot solve our energy problems and they need to be told to get out of the way and remove all the roadblocks.

National Petroleum Reserve of Alaska (NPR-A)

Formally known as the Naval Petroleum Reserve No. 4, this vast 23 million acre area on Alaska’s North Slope has a history of nearly 100 years of petroleum exploration. In 1923, mindful of the land’s petroleum value, President Harding set aside these 23 million acres as an emergency oil supply for the U.S. Navy. In 1976, in accordance with the Naval Petroleum Reserve Production Act, the administration of the reserve was transferred to the Department of Interior, more specifically the Bureau of Land Management and was renamed as the National Petroleum Reserve-Alaska (NPR-A). In 2002, the U.S. Geological Survey made a petroleum resource assessment of the National Petroleum Reserve in Alaska (NPR-A). The study estimates that between 5.9 and 13.2 billion barrels of oil are technically recoverable from the area. Also, technically recoverable undiscovered natural gas not associated with the oil is estimated in the range of 39 to 83 Trillion cubic feet. The natural gas resources economic viability is tied to the availability of a natural gas pipeline for transport to market.

Commentary -  On July 16, 2008 the Bureau of Land Management (BLM) announced that it will make land available for oil and gas drilling in the northeast portion of the NPR-A. This action sets the stage for a major lease sale this fall. At the lease sale, the BLM also plans to offer land in the northwest portion of NPR-A. This could result in as much as 8.4 billion barrels of oil being developed when increased domestic supplies are needed to help stabilize energy prices and reduce imports from foreign suppliers. The lands could also provide natural gas reserves for shipment to North American markets through gas pipelines currently in the planning stages.

Update on Gasoline and Crude Oil Prices

Since the last time I reported on gasoline and crude oil prices back in early July, June gasoline prices have dropped from $4.06 to $3.65 (a 10% drop) and average June crude oil prices have dropped more significantly from $134 to $103 (a 23% drop). In my post, I was tracking the price increases for both gasoline and crude oil from January 2003 to June 2008. I reported that the gasoline and crude oil price increase percentages since January 2003 tracked reasonably well until September 2007. After September 2007 the price increases started to deviate with the crude price accelerating much faster than gasoline. I commented that if the relationship was to hold, either the crude prices needed to come down or gasoline prices were going higher. The September 2007 price for gasoline when the deviation started occurring was $3.06.

Commentary - Updating the information through September, it turned out that both crude oil and gasoline prices declined with the crude oil price declining at a more rapid pace. As of June 2008, crude oil prices had increased 306% since January 2003, now that number is 230%. As of June 2008, gasoline prices had increased 177% since January 2003, now that number is 150%. The relationship is now closer but still has a significant deviation. The situation should be more favorable for the refiners at least for the short-term. From the data it appears that consumers started reacting to gasoline prices at $3.00 a gallon about a year ago and were significantly impacting demand as the price reached $4.00 a gallon in June 2008.

Alaska North Slope Natural Gas Pipeline

Proposals – The Alaska Natural Gas Pipeline is a proposal to transport natural gas from Alaska’s North Slope fields to the U.S. Midwest. There are two major competing proposals. The first one is proposed by BP (British Petroleum) and ConocoPhillips. BP is the operator of the large Prudhoe Bay Field with 26.7% working interest. They acquired their interest in Prudhoe Bay Field by merging with Atlantic Richfield (Arco). ConocoPhillips has 36.5% working interest. ExxonMobil has 36.8% working interest in Prudhoe Bay, but they have not been an active participant in the proposal until recently. The BP pipeline proposal is called the Denali-The Alaska Gas Pipeline LLC, a joint venture of BP and ConocoPhillips. BP plans to build a gas-processing plant for $5 billion to produce pipeline quality natural gas. The 2,000 mile pipeline from the North Slope to Alberta will cost $30 billion and is expected to be completed in 10 years. It will have a daily capacity of 4.0 billion cubic feet. Eventually, the pipeline might be extended 1,500 miles to Chicago. The second proposal is by TransCanada and their proposed pipeline would run 1,715 miles from the North Slope to Calgary in Alberta Province. The cost is $26 billion and also will take 10 years. TransCanada’s proposed pipeline will have a capacity of 4.5 billion cubic feet per day and take gas from a new natural gas treatment plant at the North Slope.

Current Status – On August 27th, Alaska’s Governor Palin who is now the Republican’s nominee for Vice-President signed a bill giving the state authority to award TransCanada a license to build and operate a pipeline to ship natural gas from the North Slope. The license will ensure that the state will not negotiate with any other developer. The bill goes into effect in 90 days. TransCanada’s bid was the only one of five proposals submitted to the Legislature that met all the terms of the Alaska Gasline Inducement Act, which established state mandates for a natural gas project. Supporters of the Denali Project say it has better financial backing. Also, BP, ConocoPhillips and Exxon Mobil did not submit bids for a state license saying the law had overly rigid mandates.

Commentary - One might wonder where is all the natural gas coming from to fill this pipeline. Some sources estimate that the Prudhoe Bay has 26 Trillion cubic feet of recoverable natural gas. The natural gas produced along with the oil is currently separated out at the surface and either flared (simply burned) or reinjected back into the formation to maintain reservoir pressure because there is no market for it. Once the pipeline is completed, the field will undergo a “blow-down” and the natural gas will be processed at a plant and shipped to markets. Unless water injection can replace the lost gas injection there could be a severe decline in the oil production. However, if current declines continue the oil field might be near its economic limit in 10 years. TransCanada might be a good choice since they are a leader in the operation of natural gas pipelines and gas storage facilities. However, TransCanada will need BP and the other working interest owners to build the processing plant and TransCanada will need to negotiate and contract with them as suppliers to the pipeline.

Update on Ethanol and Other Biofuels

Ethanol – Ethanol is a clear, colorless alcohol and is produced when yeast ferments sugar in a process similar to that used to produce beer. Ethanol is made from the starches or sugars found in various agricultural products, such as corn, wheat, barley and sugar cane. It is considered a biofuel and is used primarily for transportation when blended with gasoline. In 2007, the United States consumed 6.8 billion gallons of ethanol. By comparison, 2007 consumption of motor fuel (not including biofuels) was 139 billion gallons of gasoline and 39 billion gallons of diesel fuel. The usage of ethanol gained market share due to the Renewable Fuel Standard requirements of the Energy Policy Act of 2005. Today, a little more than half of the gasoline in the U.S. has some amount of ethanol blended into it, and these blends are named by their ethanol content: for example, a blend of 90% gasoline and 10% ethanol (by volume) is known as E10. Since ethanol contains approximately 67% of the energy content of gasoline per gallon, the use of ethanol blends results in decreased gas mileage. While almost any regular car can run on a blend of 10% ethanol, special cars known as “flex-fuel” vehicles are required for use of blends above E10, such as E85 which is 85% ethanol and 15% gasoline. There are approximately 1,600 gas stations of a total of 170,000 gas stations in the United States offering E85 to the public.

Biodiesel – Biodiesel consists of chemicals know as fatty acid methyl esters (FAME) that can be used as a diesel fuel substitute or diesel fuel additive. Biodiesel is typically made from agricultural crops such as soybeans or canola but can be made from animal fats. Currently, most of the biodiesel in the United States is made from soybean oil, but recent increases in soybean prices have caused biodiesel producers to switch to other feedstocks such as waste animal fats from processing plants or recycled grease from restaurants. Biodiesel can be used as a direct substitute for diesel fuel or blended with petroleum diesel in any percentage without suffering any significant lost in fuel mileage. Blends are named in the same manner as ethanol-gasoline blends. In 2007, the United States consumed 491 million gallons of biodiesel compared to the 39 billion gallons of petroleum diesel consumed.

Commentary -  Last week I was in Sioux Falls South Dakota and I saw some E85 ethanol pumps when I stopped for gas. The price for regular gasoline was $3.49 per gallon and the price for E85 was $2.49 which I found out later was the lowest price for E85 in the nation according to www.e85prices.com.  This website claims that consumers are aware that the current Flex-Fuel vehicles get less MPG (10-25%) with E85 and will continue to buy it as long as E85 is priced accordingly. While in Sioux Falls I learned that a local company Poet LLC has a network of 23 ethanol plants in seven states producing over one billion gallons of ethanol annually. Based on 2007 production that is roughly 15% of the total U.S. market. Poet LLC believes that approximately 15 billion gallons of ethanol can be produced from corn without giving up the existing domestic export markets. This is only about 40% of the government mandated production of 36 billion barrels by 2022. I doubt if corn exports will be stopped and cellulosic ethanol even if it was commercially viable can’t make up the difference.

Destin Dome has become the Dusty Dome

The Destin Dome natural gas field is one of the largest fields in the Gulf of Mexico. The Destin Dome field lies 25 miles off the shores of Pensacola, Florida and is believed to hold 2.6 Trillion cubic feet of natural gas or enough natural gas to supply a million Florida residents for over 30 years.

History – Chevron acquired the leases in 1984 during the Reagan Administration, but Reagan was out of office before the field could be developed. After taking office President Bush (#41) imposed a moratorium on leasing oil and gas fields off most of the Florida coast. The initial discovery occurred in 1987 and in accordance with the Coastal Zone Management Act, Chevron submitted an Exploration plan to the U.S. Minerals Management Service and the state of Florida seeking approval to proceed. The plan was rejected by Florida, however the U.S. Commerce Department over-ruled the denial. After additional exploratory drilling to delineate the leases, Chevron submitted a Development plan in 1996 and Florida rejected it. The Commerce Department now under the Clinton Administration would not act until the EPA acted on the clean air permits. The EPA referred it back to the Commerce Department and there wasn’t any action. Finally disgusted with the government’s failure to honor their contract, Chevron and its partners filed a lawsuit against the U.S. Government. The lawsuit was stalled until the next administration took office President Bush (#43) in 2001. The lawsuit was dragged out further until May 2002, when the White House, Department of Interior and the Justice Department offered to buy back leases sold over 10 years ago. The oil companies had enough and settled with the government’s offer.

Commentary – This is why the Destin Dome is referred to as the Dusty Dome. If we continue to put our own resources off limits, how can we expect to be self-sufficient in full-filling future demand needs. Now you know why we need LNG imports. I think the Florida residents might regret not developing their offshore oil and gas when they get their electrical bills in the future. LNG cost to the consumers with a deepwater port will not be cheap and just recently, Florida Power and Light proposed a 16% increase in electrical rates. I expect those rates will go much higher in the near future if they are using natural gas instead of coal to generate their electricity.