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Permanent U.S. LNG Market Expected as Costs Rise, Basins Decline

Permanent U.S. LNG Market Expected as Costs Rise, Basins Decline

With rising production costs and maturing basins, natural gas demand is moving pricing to a sustained level above $4/Mcf, which in turn may support a permanent liquefied natural gas (LNG) market in the United States, according to a report issued Thursday by Standard & Poor's (S&P).

About 60% of current U.S. gas supply comes from Western Canada, Texas and the Gulf of Mexico, and while production estimates vary widely, "the downward trend in production is clear and pronounced. As traditional production basins mature, the costs to find and produce conventional natural gas also appear to be rising. At the same time, demand growth continues to be steady, as electricity-generated growth replaces industrial gas demand."

The "significant and growing gap" between demand and supply "lays a solid foundation for LNG imports," the report notes. "Other regions, such as the Rockies and Alaska, could supply additional amounts of conventional gas in the future. However, these sources are unlikely to be large enough to substantially close the gap." The gas picture resembles the U.S. crude oil market from several years ago, and "the U.S. may be on its way to permanent import dependence."

S&P analysts said they believe that LNG will form a part of the baseload gas supply in the United States to fill in the demand and supply gap. S&P "expects that the cost to supply LNG to the U.S. will determine the floor price of natural gas in the market. The marginal price of gas will continue to be set by hard-to-reach reserves, such as deepwater fields, depleting gas fields and perhaps, Alaskan supply."

The "first movers" into the business, including Sempra Energy, "estimate that LNG can enter the U.S. market at about $3.25-3.50/MMBtu," and the forward market gas price will exceed $5. "This implies that not enough LNG will enter the U.S. to replace all higher cost domestic reserves, which will continue to set the marginal price for gas. The well documented declining cost trend of LNG shipping and liquefaction technology, in comparison with the sustained high price of pipeline gas...favors LNG baseload import markets for the foreseeable future."

LNG imports into the United States "will almost certainly be priced against natural gas itself, rather than a basket of crude oil prices, since the Henry Hub represents a deep and liquid gas market..." New LNG agreements also may have destination and volume flexibility to provide the seller or the buyer the ability to not make certain deliveries and instead to "make up" for them at a later time. "This feature recognizes that an incipient spot market for LNG has developed in recent years and may grow further." To read the full report, visit www.standardandpoors.com.

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