Incremental demand growth (mainly through power generation) throughout the 1990s had greatly depleted traditional gas reserves in Alberta and the offshore shallow-water Gulf of Mexico.
It was thus assumed that like in crude oil, the United States would become reliant on foreign sources to sate its natural gas needs.
Prices responded in accord, which came as a complete shock to commercial and industrial end users.
For instance, since the inception of the NYMEX futures contract for natural gas was introduced in April 1990 until the end of 1999, natural gas prices for the main transaction point in Erath, Louisiana (Henry Hub) averaged $2.025 per MMBtu or around $12.15 per barrel of oil equivalent (BOE), then, in 2000, when concerns regarding domestic resources began to manifest, the average price of natural gas on the NYMEX surged 213% to an average of $4.315 per MMBtu or $25.90 BOE. In fact, in December of that year gas hit a high of $10.10 per MMBtu or more than $60 BOE, i.e. more than double the price of crude oil at the time!
Today, with natural gas prices depressed below $3 per MMBtu and crude oil trading over $100 per barrel, gas is worth only around one-sixth the value of crude oil. This begs the question: why is natural gas, which averaged close to $9 per MMBtu ($54 BOE) in 2005, now worth only around $2.75 per MMBtu (≈$17 BOE), and why is crude oil, which averaged around $57 per barrel in 2005, now worth $100 per barrel?
Quite simply, unfettered by exogenous factors (e.g. geopolitical events and domestic politics) the market for natural gas was allowed to respond. In other words, high prices were the cure for high prices.
In 10 years (1995 to 2005) the price of gas jumped by around 1,000%! Thus, if you make prices high enough, entrepreneurs will find a way to get extra supply to the market.
The high price of gas in the early 2000s allowed the market to respond to the crisis in two ways. First, infrastructure was established to allow for greater importation from foreign producers in the form of liquefied natural gas (LNG). Second, the high price environment improved the economics which in turn allowed for greater production of non-conventional sources, i.e. fracking of natural gas shale formations. Over time, processes became streamlined and technologies improved. This allowed for an ever increasing volume of supply to get to market.
On the demand side of the equation, a large amount of commercial and industrial use was destroyed owing to the spike in price. This downturn in demand was compound by the 2007-2009 recession. A lot of this demand has yet to return.
So the bottom line for natural gas, in about 10 years the outlook of domestic supply has morphed from… North America is running out of gas… to… North America has enough gas to last the next 100 years.
This change in view is why many consider that long-term economic forecasting was invented so to make astrology look respectable.
Meanwhile, just as we have seen in the natural gas markets with shale fracking, drilling technology has advanced to the stage where it is economically feasible to draw crude oil from rocks, literally. Production from oil shale is transforming U.S. crude oil production to its former glory days of 100 years past (i.e. in the days of Spindletop). For example, North Dakota is now producing approximately 500 thousand barrels per day of crude oil. That is more oil than the country of Ecuador is producing… and Ecuador is an OPEC member!
As a result of increased domestic production of crude oil along with excess of oil refinery capacity, the U.S. will be a net exporter of refined oil products 2011. Up through October 2011 the U.S. imported a total of 750.3 million barrels of petroleum products (e.g. propane, fuel ethanol, gasoline, diesel fuel… etc.) and exported a total of 848.1 million barrels, thereby creating a net surplus (exports minus imports) of 97.8 million barrels.
Given that the last time the U.S. was considered an “oil power” was in the latter half of the 19th century, the fact that the U.S. is now exporting refined oil products might seem incongruous, but there are legitimate reasons driving the current disposition.
The aforementioned advent of shale drilling is a game changer. A lot of this shale oil that is being produced in places like North Dakota and Montana, as well as the tar sands coming out of Alberta has created a glut of oil the Central United States.
However, there is inadequate infrastructure (i.e. pipelines) to move that oil from the Midcontinent to the U.S. refinery epicentre in the Houston market. This is why the White House’s recent rejection of the Keystone pipeline was such a disappointment. There is a glut of oil sitting in the middle of the country that has limited access to consuming markets. That is unfortunate, because the more oil we can get to consumer markets bodes well for price.
Furthermore, demand for petroleum products in the U.S. is generally weaker. This is a function of a shift in demand inelasticity. Given the anemic recovery in the wake of the recent recession, consumers are more sensitive to price at the pump. What’s more, the push towards more fuel efficient cars over the last seven years has also been a major contributing factor to the decline in U.S. demand.
Bottom line, production of crude oil and refined petroleum products is rising, while demand in the U.S. is falling which is turn has created an export market for oil products for U.S. refiners. In fact, the U.S. Geological Survey estimates that there is upwards of 4 billion barrel of technically recoverable oil sitting underneath North Dakota and Montana. At the same time, some industry estimates of the amount of oil trapped in tar sands in Alberta at over 1.5 trillion barrels of oil.
In other words, in addition to an abundance of natural gas (not to mention coal), the United States and Canada are potentially sitting on more oil than there is on the Arabian Peninsula.
Thus, the most important resource for our future energy needs is our ingenuity.
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