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How Concerned Should Investors Be About Fracking?

|Includes:Cabot Oil & Gas Corporation (COG), GSFVF

I would assume most astute investors in the oil and gas industry have been paying attention to the fracking issue for years, trying to determine when/how/if it will impact their investments. For those unaware of the fracking process, check out this video on Cabot's (NYSE: COG) website. Evidence that companies are using known carcinogens, including naphthalene and benzene, in their frac-fluid cocktails is leading to growing concern around the globe that drinking water is at risk. has provided a list of common frac chemicals here. The following is a list of states/countries who have either a moratorium or ban on the controversial hydrocarbon recovery technique known as hydraulic fracturing or "fracking/fraccing" (let me know if there's others, as this list may be incomplete):

United States: Vermont recently became the first state to ban fracking, New York has a fracking moratorium in place while it studies the practice, New Jersey has a one-year moratorium on fracking; Canada: Nova Scotia issued a fracking moratorium until mid-2014 while it studies the technique, Quebec has suspended fracking indefinitely while it conducts its own study; Europe: France is the first country to ban fracking; North Rhine Westphalia (a German state) imposed a moratorium last year.

What conclusions do I draw from this? People around the world are becoming concerned with the recovery method, and local governments have addressed those concerns in certain cases. As far as companies operating in the U.S are concerned, there has not been much action. Vermont and New Jersey are not exactly hydrocarbon hot-beds and while New York's proposed regulations would outlaw fracking near major population areas and on state owned land, it would allow the practice on private land.

Most, if not all, state regulations require oil and gas companies to line wellboars with cement casing to a specified depth below the water table. If the cement settles properly and doesn't crack, the water table is protected from hydrocarbons and frac fluid which will come up out of the ground. The University of Texas recently released a report last year after studying the Barnett Shale (N.Texas), the Marcellus Shale (Pennsylvania, New York, Appalachia) and the Haynesville Shale (E.Texas/W,Louisiana) which concluded that water contamination was probably coming from poor casing jobs, not fracking. So there, no you know what to blame.

While the University of Texas study may have given fracking a break, does it really matter for investors? The bottom line is, frack fluids are finding a way into people's drinking water and the oil and gas industry is responsible. What everyone needs to realize (investors included) is that a certain amount of contamination is expected with regards to oil and gas drilling. Now America needs to evaluate the progress oil and gas companies are making, and determine whether it's willing to maintain the status quo. Bloomberg recently ran a story where state regulators reported environmental violations occurred at 27% of wells drilled during the first eight months of 2011, this number is down from 54% during all of 2008. New York is studying the mistakes that oil and gas companies made in Pennsylvania and finding that 62% were administrative and preventative in nature.

I believe the decision New York's government makes will be a big one for the industry, and one that investors should pay close attention to as the USGS recently estimated that the Marcellus Shale contains approximately 84 Tcf (equivalent to 14 billion barrels of oil) of recoverable natural gas reserves. If New York, a predominantly liberal state with significant natural gas reserves, allows fracking to proceed, it will be a bellwether for other states who are considering banning the practice.

A potential alternative to current frac methods: An undisclosed company operating in the Utica Shale in Ohio has solicited GasFrac Energy Services (TSX: GFS) to frack wells using LPGs (liquified petroleum gas), a predominately propane mixture. It will be interesting to see how economic GFS' services, which could turn out to be a boon for the LPG/NGL (natural gas liquids) market. It's probably of no coincidence that the Utica shale produces a substantial amount of NGLs or wet gas. Although flammable, use of LPGs would cut down on frac water demand.

Either way, any current or potential investor in the oil and gas industry needs to be paying attention to these issues, because legal issues relating to fracking, government regulations and drilling moratoriums are all issues that could effect any oil and gas company in your (potential) portfolio. Keep in mind that fracking isn't the only issue we need to be paying attention to, as water shortages in Texas (attention investors who own companies with Eagle Ford Shale assets) and earthquakes from injection wells are also serious issues.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Stocks: COG, GSFVF