U.S. LNG Shale Gas Exports Likely To Face Headwinds

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by: MetalMiner

Original Post

By Stuart Burns

In many debates about energy costs, we tend to lump crude oil and natural gas together.

Indeed, they are pumped out of the ground in a similar way. They come from the same or similar regions and formations and are extracted, processed and sold by many of the same firms. Both are intrinsically "energy" products and these similarities explain why most people expect them to behave similarly in relation to each other when it comes to price.

But, in fact, the correlation is, historically, not close. For long periods of time, the correlation in price movements was little better than 25% but in periods of price spikes for crude oil, natural gas prices have also spiked bringing their aligned movements up to a 60-70% correlation.

Not Birds of a Feather

In reality, though, there is little reason why they should or would follow one another. Oil has been a freely traded and easily transported product making price arbitrage opportunities limited and tending to smooth out regional differences. Natural gas, on the other hand, is highly regional needing pipelines to transport it even modest distances of a few hundred kilometers and it needs to be converted into liquefied natural gas (LNG) to be transported globally.

Increasingly, though, lower LNG prices are making power generation more attractive and a global drive for less carbon intensive fuels has encouraged massive investment in LNG processing facilities and transport vessels. At one time, Qatar was the undisputed LNG king even though other countries had larger gas reserves and pumped more from the ground, but for historical reasons had invested in pipelines rather than LNG. Russia is a prime example.

Power Generation Demand

It was feared by industrial consumers in the US that historically low domestic natural gas prices would be undermined if shale gas firms were allowed to export LNG in volume, but - unfortunately, for the firms that have invested billions in refitting import LNG terminals to make them export terminals - they are coming onstream at a time of oversupply and weak prices.

So badly has the landscape for LNG deteriorated that Woodside Petroleum (OTCPK:WOPEY) - along with its partners Royal Dutch Shell (NYSE:RDS.A) (NYSE:RDS.B), BP (NYSE:BP) and Japan Australia LNG - has shelved its $40 billion Browse LNG project off western Australia. Asian LNG prices have collapsed, falling 45% over the past year according to the Financial Times in the face of new supply and softening demand.

Woodside's competitor Chevron (NYSE:CVX) is just completing its massive $54 billion Gorgon project, also off western Australia, and is poised to ship its first cargo. Australia was positioned to overtake Qatar as the world's largest LNG producer, but the raft of postponements and project cancellations will delay that achievement. Meanwhile, new entrants are joining the market.

Export Competition

Qatar's neighbor Oman has not one but two projects about to add to global supply. One is maximizing the capacity of its three-train 10.4 million metric ton per year LNG plant by taking 1.5 million tons of natural gas 400 kilometers by pipeline from Iran and maxing out the liquefaction capacity.

Iran has the world's largest gas reserves and the potential, with foreign investment now that sanctions are being lifted, to swamp supply. Oman's second project is BP's development of the Khazzan shale gas resource, the project is currently 65% of the way to completion according to oilprice.com and when completed will boost Oman's reserves by as much as 40%. Khazzan's estimated 24.9 trillion cubic feet of reserves, though pale in comparison to Iran's 1,046 trillion cubic feet of proven reserves.

With so much capacity coming onstream in Australia, with the Middle East adding further capacity to its already leading position, with Iran just a few years away from adding further supply and with Asian demand softening, maybe U.S. consumers do not have too much to worry about domestic prices being raised by a flood of LNG leaving the country.

America's liquefaction export plants will find markets willing to take their cargo. The UK already says its domestic market price has fallen in response to potential supply from U.S. shale producers encouraging suppliers to moderate prices in the face of the threat, but the world is not screaming out for LNG supplies today in the way it was at the end of the last decade. Does that suggest both LNG and crude prices are set to fall? Probably yes, and for similar reasons of oversupply and a softening market.