Checking in on Natural Gas

Friday File look at favorite plays on low natural gas prices

By Travis Johnson, Stock Gumshoe, April 27, 2012

Natural gas has to be the least favorite commodity in the United States right now — it’s dirt cheap even after it recovered from recent lows below two dollars, local communities in some areas are harrumphing about earthquakes and water pollution in the areas where hydrofracking is producing this cheap gas, and the gas developers are seemingly in desperate straits as they have to keep exploring and drilling or lose their licenses, but many of them can’t make much of a profit with natural gas as two bucks.

So what do you do? Do you have the guts to buy when it’s low, as many investors try to do? Many readers have been asking me about this, particularly with the huge number of natural gas-related teasers we’ve seen in recent months, so I thought I’d check in with some of my thoughts on a few of the trends and companies.

It’s a tough sell — natural gas before the runup of the 2000s was, after all, pretty much dirt cheap for decades. It hovered in the $2 range for most of the 1980s and 1990s, with limited demand (mostly for home heating, fertilizer, and chemicals), then shot up starting in the late 1990s as supplies seemed short and coal seemed to be on the way out as a fuel for electric power generation.

The high prices got everyone excited, exploration took off, fortunes were made, and the horizontal drilling and hydraulic fracturing revolutions led to the discovery and exploitation of massive new shale gas deposits like the Marcellus Shale in the Northeast. Which increased the domestic gas supply so rapidly that prices collapsed and storage facilities are now hitting their maximum capacity.

Which means I have no interest in buying a natural gas explorer or producer right now — not a traditional one, at least. I’m just not brave enough, or confident enough that gas prices will climb enough to sustain their profitability. They are getting cheap in most cases, particularly the big guys like Chesapeake Energy (CHK), which trades at a PE down around 6 or 7, or even industry leader ExxonMobil (XOM), but most of them are in a terrible bind if prices stay low: They’re drilling on land or leases that they paid for when they were expecting natural gas to be somewhere between $6-10/mcf instead of the low of $1.80 or so that it hit recently ...

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