Editor’s Note: NGI’s Mexico Gas Price Index, a leader tracking Mexico natural gas market reform, is offering the following column as part of a regular series on understanding this process, written by Eduardo Prud’homme.

Prud’homme was central to the development of Cenagas, the nation’s natural gas pipeline operator, an entity formed in 2015 as part of the energy reform process. He began his career at national oil company Petróleos Mexicanos (Pemex), worked for 14 years at the Energy Regulatory Commission (CRE), rising to be chief economist, and from July 2015 through February served as the ISO chief officer for Cenagas, where he oversaw the technical, commercial and economic management of the nascent Natural Gas Integrated System (Sistrangas).

The opinions and positions expressed by Prud’homme do not necessarily reflect the views of NGI’s Mexico Gas Price Index.

In different articles, I have addressed how natural gas conditions on both sides of the U.S.-Mexico border appear to be perfectly aligned. To the north of the Rio Grande there is an abundant supply of natural gas that far exceeds regional demand. South of the border, hydrocarbon production has declined dramatically, demand has grown steadily and sometimes gas consumption in the electricity sector must be curtailed due to insufficient supply. In simplistic terms, the respective national imbalances are complementary and therefore the bilateral trade of natural gas should be a source of value creation for the economic agents involved.

Does it make good business sense to sell gas to the Mexican market? The answer is yes, but it’s not so simple. Arithmetic suggests a huge profit opportunity. However, the structural realities of a market in transition cause distortions that don’t always equate to perfect competition. The relative scarcity and congestion of the gas network can be costly to users. Paradoxically, it’s Mexico’s state energy companies that enjoy the large part of the commercial gains to be had; the gas sector is far from efficient. But this is changing.

We need to go back in time to understand why this is, before we can discuss what’s next.

Mexico has been importing gas from the United States for decades. The location of Pemex pipelines and gas production from the Burgos basin have never been able to meet the demand of the industrialized northern states of the country.

In the case of Sonora and Baja California, companies such as Sempra (now IEnova) and El Paso developed transportation projects to supply gas from the United States for their power projects.

Border cities – such as Mexicali, Nogales, Cananea, Piedras Negras and Ciudad Juárez, which is the second largest distribution area in the country -- through local distribution companies take gas directly from cross-border interconnections. In the South Texas area, through interconnections with Mexico’s National Gas Pipeline System (SNG), the Coral, Valero, Tennessee and Tetco systems have long delivered gas to Pemex so that it complemented Burgos basin production. Each system’s specific volumes and intermittences were in accordance with the transport and supply contracts signed by MexGas Supply International, or MGI, the Pemex subsidiary responsible for the international trade of natural gas.

Indeed, for decades, the added value around the sale of gas to Mexico was associated with a commercial agreement with Pemex. The monopolistic marketer of the Mexican market was also the dominant player in cross-border supply, even in cases where the main recipient of the gas was the state utility, CFE. For example, El Paso Natural Gas delivered gas from Clint, Texas, to San Isidro, in the State of Chihuahua, on the Mexican side, where its company, Gasoductos de Chihuahua, in partnership with Pemex, transported the gas to CFE at the Samalayuca generation plants, near Ciudad Juarez.

It has also been difficult for a private agent to make a long-term commitment that would serve as an anchor for a transportation and commercialization project from Texas. An emblematic case is the transport permit that is currently owned by Kinder Morgan that connects Cuidad Mier with Monterrey.

This project was the third private transport system and in 1996 obtained a permit to operate from the Mexican Energy Regulatory Commission (CRE). Between 1998 and 2001, Kinder Morgan carried out an open season. But no industrial user in the Monterrey area offered to make the project financially viable. Finally, Pemex was the marketer who reserved the capacity on this gas pipeline, giving certainty to the investment but accentuating the monopolistic position of Pemex in the commercialization of gas -- and in an area far from its main production centers.

In the following five years, the export of gas to Mexico gained an interesting dynamism thanks to the supply strategy of the CFE as a way to guarantee gas to its generation plants. The switch from heavy fuel oil to natural gas at generation plants located along the Pacific coast in the states of Sonora and Sinaloa happened thanks to supply from Arizona via the Sierrita Pipeline and El Paso Natural Gas. Yet even in this case, the purchase of the molecule has not been exempt from the intermediation of Pemex subsidiaries.

Through the years, CFE replicated this supply scheme, extended and sophisticated it with tenders and agreements to build more pipelines in Mexico and even anchor projects north of the border.

This is how Trans-Pecos pipeline came into being. It can move 1.4 Bcf/d from the Waha Hub in West Texas to Presidio, Texas to then transfer gas to the system that goes from Ojinaga to El Encino in Chihuahua. CFE is also the holder of 1.1 Bcf/d capacity on the Comanche Trail pipeline which moves gas from Waha to San Elizario, Texas, and continues on to Samalayuca, on a new line, called San Isidro-Samalayuca . From there, the remaining gas can continue on a long journey to interconnect with the aforementioned coastal pipeline that begins in Sásabe, Sonora.

To the San Elizario area, on the Roadrunner intrastate pipeline, CFE can also move 570 MMcf/d from the Waha area that can reach the Tarahumara pipeline owned by Fermaca, which is the first segment of the “Wahalajara” system that ends up in the second most important city in the country, Guadalajara.

As such, CFE has been able to take on greater protagonism in cross-border trade. CFE through its international subsidiary, CFE Internacional, became the determining player of the Mexican gas market, not only because of its growing participation in the binational market but also because of the clear decline of Pemex as a gas producer and its loss of exclusivity as a marketer once open access through the energy reform of 2014 was achieved.

For just over five years now, selling gas to Mexico is no longer about delivering gas to Pemex at the border. Now CFE is a buyer of volumes higher than transactions related to Pemex. As an anchor user of infrastructure originating in Texas, the contracted capacity in aggregate exceeds that associated with Pemex, in particular the capacity on the Net Mexico pipeline.

Once the Wahalajara pipes come into operation later this year or early next year, import capacity in Mexico would have increased by 80% since the energy reforms took form. In September, the 2.6 Bcf/d Sur de Texas-Tuxpan marine pipeline, with the Valley Crossing pipe as an upstream segment, started flowing gas. This shows how the CFE-anchored pipelines are gateways that, when opened, allow for a significant increase in exports to new recently seen highs of 5.9 Bcf/d.

In his splendid recent article, Jason Ferguson of RBN Energy poses that this is the prelude to a tide that will flood the Mexican market with American gas. He also rightly points out that this cannot happen before the Wahalajara system comes into being. In the worst case scenario, this will occur next year. But gas consumption is far from growing at the same rate as capacity additions.

For a few years the Wahalajara system will see a utilization factor below one third, despite upstream connectivity and the availability of Waha gas. In an optimistic scenario, which means the simultaneous and smooth operation of all planned projects in Chihuahua, Coahuila, Durango, Aguascalientes and Jalisco, new power consumption will be around 600 MMcf/d.

Clearly, the gap between the capacity of this system and the expected power consumption represents a tremendous opportunity to meet industrial demand. However, in the very short term there are few agents that will be able to take advantage of this if CFE does not open up this capacity efficiently.

The amazing thing is that the abundance of gas in Texas has seen prices turn negative during the course of this year. However, Mexico's new connectivity and access to that cheap gas has not necessarily translated into attractive commercial supply proposals. The reason is that the conditions that allow for the exercise of market power have changed little in the Mexican gas network.

In his article, Ferguson sees the opening of new routes with much optimism. He sees mass export opportunities for American companies that will soon mean the end of liquified natural gas deliveries on both Mexican coasts.

Without a doubt, the entry into operation of so many pipelines is good news. But the poor visibility of regional balance conditions for export agents, the hoarding of capacity together with a lack of transparency and economic signals will make the commercial work of intermediaries competing with Pemex and CFE difficult. Under current political conditions, there will be growth, and the Mexican natural gas business will keep providing money-making instances, but not at the pace we had once expected. The increased flow of gas will be gradual before any possible flood.