If Mexico's natural gas production continues to inch upward, it may play a "modestly bearish" role in the U.S. gas equation in 2008, according to energy analysts with Raymond James & Associates Inc.

Analysts J. Marshall Adkins and Collin Gerry said factors in Mexico could contribute to a "looser" U.S. gas market in 2008 based upon internal calculations by Mexico's state-run Petroleos Mexicanos (Pemex). In the past five years, Mexico's gas production has risen more than 30%, from around 4.5 Bcf/d to just under 6.0 Bcf/d. With its rise in gas output, Pemex is forecasting a decline in U.S. imports from the current average of 0.45 Bcf/d to 0.15 Bcf/d in 2008.

"Going forward, it appears that U.S. natural gas exports to Mexico will fade to nothing over the next couple of years," wrote Adkins and Gerry. "While this change may seem like a small number, on an annualized basis it would mean an incremental 100 Bcf+ more in storage in the U.S. during the full-year 2008."

However, most of the decrease in Mexico's demand for U.S. gas is based on a forecast by Pemex for increased liquefied natural gas (LNG) imports. The Altamira LNG facility is Mexico's only plant now in operation. Two more LNG terminals, each capable of 0.5 Bcf/d of capacity, are scheduled to be in operation in 2012. Historically, Mexico has had a deficit of 1 Bcf/d of gas (+/- 0.5 Bcf/d depending on prices and seasonality), which has been covered by U.S. supplies.

Any delays or disruptions related to the schedule for the ramp-up of the LNG terminals would "likely manifest in a continued draw on U.S. supplies to feed Mexican demand," said Adkins and Gerry. "Additionally, much of this work is based upon internal projections supplied by Pemex, which, let us be honest, has a tendency to miscalculate growth trends."

The analysts said they estimate that domestic Mexican supply growth may actually be higher than anticipated but that Mexican gas demand growth also will be higher than expected -- thus canceling each other out. Between 2001 and 2003, Mexico produced a flat 4.5 Bcf/d, most of which was associated gas from the country's oil developments. Since 2003, however, total gas production has risen by about 30%, with nonassociated gas production up by more than 80%, according to Pemex.

"What has spurred this growth?" asked the Raymond James team. "Simple; Pemex has partnered with international oil service companies to improve gas extraction. While this business methodology change may not have led to meaningfully more active drilling rigs, it has clearly had a meaningful impact on Pemex gas production levels. In fact, many of the bigger oil service companies, including Halliburton, Schlumberger, Baker Hughes and B.J. Services, have cited Mexico as a large source of recent growth, through integrated-project management contracts with Pemex to help boost both oil and gas production."

Whether more or less gas is supplied to Mexico "is not the pivotal factor in understanding the North American gas equation going forward, but it does exemplify the growing complexity of the U.S. natural gas market," the report said. Most of the energy focus has historically been on Mexico's oil production, but the country has made "significant strides" to increase its gas production.

Pemex is forecasting its gas production to stall, with domestic production peaking at around 6 Bcf/d in 2011, which would be essentially flat with current levels, noted Adkins and Gerry. "As a result, Mexico's ability to meet future increases in local demand will likely depend on the country's ability to ramp up its LNG regasification facilities."

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