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Good Policy, Good Profits in Natural Gas

by | published May 2nd, 2012

In the past two weeks, a maelstrom of emails has been hitting my inbox from concerned readers, investors, academics, and even some prominent journalists.

What’s got everyone so heated?

It seems a lot of people are concerned, confused, and even outraged over a recent Executive Order signed by President Obama regarding the development of unconventional natural gas formations here in the United States. The executive order, issued on April 13, calls for greater coordination in federal oversight of “fracking” – a revolutionary, yet-still-nascent process of extracting natural gas from rock bed.

Questions ranged from the impacts of new regulatory standards to industry support levels. Concerns stretched from sector performance outlooks all the way to the highly alarming and somewhat foolish argument that such an order precipitates a “government takeover of the natural gas industry.”

Now, I’m overly cautious when the government announces any role in business. But when you take a close look, this announcement is rather benign.

That’s why I’d like to take a few minutes today to explore the ongoing developments in this story, set a few eager minds at ease, and explain a few benefits – yes, benefits – of this Presidential directive.

In the age of 24-hour media, one marked by rampant polarization and limited policy analysis, we often hear only a fraction of the full story.

And yes, it’s easy to get caught up in the immediacy or negative impacts of one single act.

But there’s a lot to like here.

This Natural Gas Boom Came Along Very, Very Fast

The real story starts with the remarkable transformation of the natural gas sector here in the United States over the last five years.

The technological breakthroughs in fracking and horizontal drilling have revolutionized a national market and created an immense glut of supply across the United States. Hydraulic fracturing enables drillers to use high-pressure water, sand, and chemicals to break open seams in shale rock. This makes it easier to extract natural gas.

But this transformation has occurred so quickly that Federal agencies have been scrambling to keep up with the breakthrough. Nearly a dozen agencies have skin in the game when it comes to regulating and conforming to major Acts of Congress (including the Department of Defense, the Department of Agriculture, the Department of Transportation, the EPA, and so on).

Every agency conducts studies, examines process performance, evaluates legalities, and all of their work does take time (sometimes too much).

But when they are individually scrambling to set standards in conformity with major legislative acts, it can be very difficult for energy producers to meet expected regulations all at once.

Hence, this executive order.

The ultimate goal is to improve process and communication, something that has been sorely lacking in energy policy for the better part of 40 years. Improved communication between the agencies would enable greater understanding of one another’s work, provide greater coordination between agency heads on this critical policy issue, and, specifically, reduce overlapping regulations.

But don’t just take my word for it.

The Natural Gas Industry Supports This Order

The term “executive order” does have a negative connotation to it, since it sounds like an imperial command from high above. But in reality, this is similar to a corporate CEO telling the presidents and executives in various company divisions to meet now and then to discuss major company business.

And natural gas production is major business in the United States.

Nowhere in the order does it mention that the government will be involved in the actual production. In fact, it specifically states, “natural gas production is carried out by private firms.”

But Federal agencies are at the service of the Executive Branch. Therefore, this order is directed at the agency leaders and their communications teams. These divisions are very siloed and conduct many similar projects, studies, and analyses. The goal is to expedite and facilitate greater coordination.

Still, if anyone is overly concerned about this being a situation where the government is expanding its regulatory overreach, there’s industry support here.

The American Petroleum Institute (API) came out and supported this order just after it was released.

API is the largest trade association for the oil and gas industry in the country; it represents roughly 400 companies within the entire energy sector.

“We’re pleased that the White House recognizes the need to coordinate the efforts of the 10 federal agencies that are reviewing, studying or proposing new regulations on natural gas development and hydraulic fracturing,” said Jack Gerard, API president and CEO, in a statement. “We have called on the White House to rein in these uncoordinated activities to avoid unnecessary and overlapping federal regulatory efforts and are pleased to see forward progress.”

Gerard has been outspoken and critical of the President, the EPA, the DOE, and just about every industry regulator there is in the past… and more than once, at least. So to see his support here is a positive sign for owners and operators in the unconventional business.

(On a personal note, I did some work with API in the wake of the BP oil spill. Recognizing their pro-business, “free-market” philosophy to the industry, I’d say that if Jack Gerard is “praising” this order, it’s likely a good sign.)

Which brings us to the other concern…

Will There Be New Standards and Regulations?

As to the overall environmental impact of hydraulic fracking and horizontal drilling, the jury is out – and will be out for some time.

It’s vital to give it some time while industry experts, agencies, and independent sources conduct analysis on the economic, environmental, and societal benefits and drawbacks of these processes.

But while concerns about overregulation in this sector were brewing up after this announcement, a new story unfolded yesterday that adds credibility to the companies involved to this ongoing drama.

Nearly a dozen major energy companies, including Chevron Corp. (NYSE:CVX) and Royal Dutch Shell (NYSE:RDS-A), announced they had developed standards for hydraulic fracturing in the Utica shale formation.

These voluntary “best practices” are designed for drilling, well design, water use, and equipment use. So, the industry is being proactive in setting standards to coincide with recent announcements from several additional agencies.

Hopefully, their actions will send a clear signal that they take the balance between energy development and environmental stewardship seriously.

More to this Story is on the Way

Kent said nearly 18 months ago that shale gas is too large a target for the operators to avoid. With so much money to be made over the long term, greater coordination between the agencies and greater adoption of best practices were inevitable.

This has been just the latest part of an ongoing drama that will continue to unfold and provide many profitable opportunities in the future.

Patience, unfortunately, is the commodity we really need when dealing with government and private sector coordination.

But the opportunities will come, and this revolution in unconventional natural gas couldn’t come at a better time.

As Kent and I have explained at great length, the price of natural gaswillrise again. It’s inevitable. And there is plenty of fundamental evidence in other commodity markets as to why. It might not be tomorrow, but it’s coming. The problem is that some seem so overly focused on the near-term asset performance that they fail to recognize real long-term potential.

Kent’s identified four big factors moving forward that will push the price back up, including the massive transfer to natural gas as a major replacement to nuclear and coal-fired power plants.

So don’t let misinformation about policy and short-termism scare you away from the massive potential on the horizon.

I’m certainly wary of government’s role in economic development, but from a process standpoint, it’s important to improve communications between federal agencies. In fact, it could be a starting point to something much bigger.

I’ll continue to cover this story moving forward, particularly as we approach the greater opportunities of midstream transportation and LNG exporting.

Best,

James

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  1. Joe Gaino
    May 2nd, 2012 at 13:51 | #1

    When should we expect to see progress on the development of natural gas engines for passenger cars and the availability of fueling stations to supply LNG?

  2. dale
    May 2nd, 2012 at 14:03 | #2

    it is very unlikely, based on past,that we should trust that industry to police themselves on environmental caution.

  3. Mike Ward
    May 2nd, 2012 at 16:59 | #3

    Is CHK a current buy now?

  4. R. Squier Ball
    May 2nd, 2012 at 18:01 | #4

    Of course, you know what George Washington said about government. I don’t have the exact quote in front of me now, but it mentions that Government is like fire…a dangerous servant and a fearful master.
    When we have federal regulators imposing their bureaucratic noses into the natural gas area, we have an automatic formula for problems galore! Yet the nation’s independence depends on developing US natural gas capacity as fast and as much as possible. This is not a weekend tennis match. If you show confidence in the benign activity of federal bureaucrats, you are not on my side!

  5. bill woodbridge
    May 2nd, 2012 at 18:02 | #5

    You guys can print more words to say nothing of value than anyone else I have ever read. You are WAY TOO verbose. Shorten your messages to 2 paragraphs and they might be worth taking the time to read. All of your postings end with the same thing “so we’ll let you know more later”. As if I want to keep reading these posts to never get any info regarding how to invest NOW! Kent is just an egotistical old windbag who wants to brag about how many places he goes with his wife. WE DON”T CARE! And you are only accomplished at taking ugh of our time to say very little of investment value.

  6. R. Squier Ball
    May 2nd, 2012 at 18:13 | #6

    If you and your advisors continue to trust Mr. Obama and his various advisors, you don’t get it! While Obama and crew have already shown their technocratic, egg-head, marxist-smelling propensities, you can’t tell me to trust them. Trust is out of the question. Our government must be tied down, as originally intended.
    Don’t give me the rot about America’s global destiny: neo-con thinking of that sort is exactly what has perverted our nation’s path, ever since Teddy Roosevelt(although I don’t have any evidence that Trotskyites even existed in 1900-1905). The Power Hungry and global meddlers think alike.

  7. Dieter
    May 2nd, 2012 at 18:14 | #7

    For now, the President has acknowledged that he understands the shale gas story. When he gets the big picture of the size of opportunity this development has, he will for sure get the idea to jump on the band waggon and to tap into this with some sort of additional taxation on natural gas.

  8. Bill Meyers
    May 3rd, 2012 at 00:27 | #8

    Anyone know what’s going on with the EPA and Range Resources being halted or postponed from fracking ?

  9. Larry Cope
    May 3rd, 2012 at 11:12 | #9

    I believe using natural gas would be a great boon to our society and to others! But why would we not develop greater nuclear power facilities? LMCope,SC

  10. Dom
    May 3rd, 2012 at 18:58 | #10

    So at the end of the day, what will be the affect of this coordinated effort? Will the various branches of the government come together and conclude fracking is too dangerous to permit its use for drilling oil and gas? If this then happens, how will it affect the oil and gas industry, especially up and coming plays in the space such as WPRT and CLNE?

    Maybe a follow-up article discussing the potential future of fracking, the likelihood of each scenario, and its affects on the industry would be appropriate and helpful.

    Thanks,
    Dom

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