Tuesday, February 22, 2011

Low Priced Natural Gas - This Too Shall Pass...

I'm always looking around the markets for unloved and/or distressed situations that might present an opportunity for the long term investor. The US natural gas (NG) industry has suffered over the past 2-3 years from a series of issues causing prices to collapse from 2007 highs. Reduced demand, thanks to a sharp economic downturn and a rise in supply thanks to new shale gas field finds in continential North America. New technology including improved "gas frac-ing" ( i'm no expert on fracing - check out wiki for more detail if you're interested) has allowed significant amounts of gas to be recovered from new and existing wells. Many wallstreet "experts" have proclaimed that natural gas prices will never recover as we are flooded in gas. While there are many factors affecting supply and demand conditions, it's hard to believe prices will stay low forever. This too shall pass....

Over the past 2 years there have been several corporate events that only recently have been recognized by the "street". 18 months ago Exxon Mobil purchased XTO Energy, an independant energy company in a $31 billion deal. This deal was done at very attractive rates for Exxon. They bought the company for around  $2.96 per thousand cubic feet of proved reserves. More deals have followed. Talisman Energy and South Afica's SASOL. More recently, BHP, the Austrialian mining giant has purchased a huge stake in Chesapeake Energy's Fayetteville shale assets. The price tag - $4.75 billion. Also, Encana, one of Canada's largest NG companies has entered into a deal with China's PetroChina worth $5.1 billion. They will co-develop close to 257000 hectares with proven reserves of 1.0 Billion cubic feet of NG.

These actions by well informed, long term oriented - industry players and large governments tells me that natural gas assets are cheap and the smart money wants in. Only recently, have the natural gas stocks started to move upwards reflecting the better outlook on the industry. There is still room for prices to move up going forward. But that will take some time. To be clear, many of these stocks are no longer dirt cheap. Buying in now would reduce your margin of safety and your potential return. However, there are many options if you want to invest in natural gas space, but a few names to look at include: EOG Resources, Range Resources, Chesapeake Energy and Sandridge Energy. I currently have a position in Sandridge Engergy and will only add on a significant pull back. I have also recently sold my position in Talisman energy.

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