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New Pipelines Could Chill Natural Gas Prices

It’s been one heck of a roller-coaster ride for natural gas prices over the last few years. As the use of hydraulic fracturing and advanced technology like horizontal drilling have spread across North America, the resulting glut of natural gas and natural gas liquids (NGLs) has driven prices toward historical lows.

Natural gas prices have dropped roughly 60% since 2007 as producers reach supplies long trapped deep in tight layers of shale rock. Gas futures tumbled to $1.902 per million BTUs back in April. That’s the lowest price since 2002. Since then, futures for the fuel have averaged $2.679 after rising as high as $3.277. Analysts predict prices should average around $3.20 per million BTUs during the first quarter of 2013, when winter demand peaks.

However, they may want to rethink their price targets.

A whole series of new pipelines coming from America’s natural gas heartland could severely slam the already low price for the fuel. That extra supply could affect investors as well.

Massive Potential

What the Bakken region is to oil, the Marcellus is to natural gas. Considered one of the largest shale formations in the world, the Marcellus is North America’s greatest natural gas resource. The field features vast reserves, low per-well development and production costs, and a close proximity to key East Coast markets.

No wonder poducers like Range Resources (NYSE:RRC) have flocked to the Marcellus. Production from the region is now conservatively projected to reach nearly 10 billion cubic feet a day by the end of 2014.

Yet there’s a slight problem: the lack of infrastructure.

Existing gathering systems, processing plants and pipelines across Appalachia were designed to accommodate relatively small, low-pressure gas wells. The new wells fracked in the Marcellus have much different profiles, including high initial production rates, high pressures, steep decline curves and significant liquids production.

All in all, these represent challenges for the region’s current batch of pipelines, so a host of new midstream infrastructure needs to be developed. Once again, logistics is proving to be the key piece energy pricing. According to the Energy Department, about 1,000 Marcellus shale wells sit uncompleted, mainly due to the absence of pipeline infrastructure.

3.5 Billion Cubic Feet of Capacity

However, that lack is quickly changing. Several new pipelines from the Marcellus shale are scheduled to come online this fall. Based on government and pipeline company projections, as much as 2 billion cubic feet of gas a day are set to flow from new lines in Pennsylvania, Ohio and West Virginia. Overall, new pipeline projects with roughly 3.5 billion cubic feet of additional capacity will be completed between September and December.

More projects are in the works as well. Spectra Energy (NYSE:SE) is building a pipeline to ship Marcellus shale gas to Manhattan by next November and is currently seeking customers to build a line to Florida. Midstream firm Williams (NYSE:WMB) estimates that more than half of its $11.5 billion in capital spending through 2014 will focus on the region. Likewise, both Kinder Morgan Energy Partners (NYSE:KMP) and Penn Virginia (NYSE:PVR) have ambitious projects on the table in the Marcellus.

While these pipelines are necessary to access the Marcellus shale’s bounty, they do come at a price. New pipelines that could boost deliveries from the field by as much as 30% — roughly 900 million cubic feet a day — will come online during the fourth quarter.

That’s a big deal, considering we still have a major glut of natural gas. While supplies have dropped considerably since the April price lows, they’re still roughly 9% above five-year averages. The DOE estimates that supplies could rise to a record 3.95 trillion cubic feet by the end of October — just before demand begins to climb with colder weather.

That’s assuming we get a frosty winter. Demand by power plants and for home heating peaks in January and February. However, last winter’s warmest weather since 2000 helped keep inventory levels at record highs. Meteorologists predict more of the same mild conditions this year.

Playing the Lower Prices

That means natural gas prices could fall dramatically — by 50 to 75 cents per thousand cubic feet, according to some analysts — on the increased pipeline capacity and flood of Marcellus gas entering storage facilities. All things considered, that could mean more pain for the natural gas-focused producers as they’re once again forced to deal with sub-$2 pricing.

For investors, that could mean hedging a portion of their energy portfolio with a vehicle like the ProShares UltraShort DJ-UBS Natural Gas (NASDAQ:KOLD) — which shorts natural gas futures — as the glut continues to unfold. Ultimately, it’ll take some time for all of those new ethane crackers and power plants to be built and really take advantage of the new-found bounty and spur demand.

Another option for investors is to focus on low-cost producers in the region like Cabot Oil & Gas (NYSE:COG). According to Chief Financial Officer Scott Schroeder in an interview with Bloomberg, Cabot has a breakeven point that’s “probably below $2.” That’s good, considering the plethora of new pipelines in the Marcellus that could push prices down to that point once again.

As of this writing, Aaron Levitt didn’t own any securities mentioned here.

Article printed from InvestorPlace Media,

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