The Good News: Hope is Leaving the Natural Gas Market

In the last few days I have read two major investment groups in the natural gas market put off any hope of recovery in the natural gas price until at least next year, and maybe even 2011-12.

And yes, this is very good news for investors.  Because these stocks can’t start to go up until all hope is gone. Until the valuations of these companies price in much lower gas than what analysts have been using in their models, natural gas companies are what I call zombie stocks – walking dead men.  Right now growth is not being rewarded in Canadian listed energy stocks.  The quicker we hit bottom (unfortunately still several months away) the quicker investors can comfortably buy natural gas stocks again knowing that as production and cash flow increase, so will the stock price.

Joseph Schachter has been a prominent bull on energy prices for some time, and in his latest monthly report says a turn around in natural gas stocks is now not likely until 2010.  Tristone Capital, a Calgary-based institutional boutique brokerage firm, now says gas in the US (NYMEX) will average $4.25 this year, and not get above $8 for at least five years.

They are the first group in Canada that I see using realistic energy prices in their modelling.  I have talked about this before in previous posts – analysts have been valuing companies using WAY too high a natural gas price. 

And they cite the same reason I did in my original story – the cost of gas is going down because of horizontal drilling (HD).  HD wells increase production so much, they are cutting the cost of gas in half in some plays – especially the shale gas plays like Marcellus and particularly Haynesville in the US, and the Montney and Horn River in Canada.

HD is changing the economic landscape of the natural gas market for the next several years.  There are large parts of each of these formations that can produce gas for $4.50 per million cubic feet per day (mcf/d).  Not every well will make money in these large formations at that price, but enough will to keep the marginal price of gas well below what it has been for the last five years.

We also spoke to the fact that while the number of rigs actively drilling for oil and gas has declined a lot in the last few months, in Canada at least the number of metres drilled has not – because HD wells are obviously a lot longer.  The HD rig count is not down very much at all (because they still make money at these prices!). Ouch.  Tristone echoed these sentiments.  Onshore US production could continue increasing this year.  Double Ouch.

And of course they talked about the fact that industrial demand has fallen off a cliff blah blah blah, stuff we already know about. 

Very few Canadian intermediate and junior producers are hedged at last year’s higher prices – just a few of the seniors and the trust.  And they all have debt.  There will be a great consolidation this year.

We can make money buying natural gas stocks this year.  But first, hope must leave the market, and now we are starting to see that.

Tristone did call for 2010 gas to average $6.75.

READERS – check out www.dvtechtalk.com for great FREE and DAILY technical analysis.  Don Vialoux has been published in Investors Digest for many years.  I find his site a great quick read in the morning.