The Oil Play That Could Flood the Natural-Gas Market

By Timothy Puko and Christopher M. Matthews Features Dow Jones Newswires

The oil-rich Permian Basin is emerging as a major source of new natural gas, a development that could deepen an existing glut and pressure gas prices for years.

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The West Texas region has become the most prolific spot for horizontal oil drilling and fracking. The new oil wells also produce natural gas, making it a nearly free byproduct that energy companies can then sell on top of the more-sought-after crude.

Gas production in the Permian Basin is likely to triple by 2020 from its 2010 levels, analysts say. The region is poised to rival new gas output from the Appalachian Marcellus Shale, the U.S.'s biggest gas-producing region.

Businesses and investment firms are earmarking billions of dollars for new pipeline connections to take away gas so that drillers can keep pumping oil.

Blackstone Group LP last month agreed to pay $2 billion for EagleClaw Midstream Ventures LLC, a gas-focused pipeline company in the region. Kinder Morgan Inc. and at least two others have announced plans to spend billions of dollars on new pipelines.

The rapid growth among oil drillers and the support for pipeline projects both in Texas and from President Donald Trump's administration are helping make those investment decisions easier.

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Natural-gas prices are down 16% year to date, with near-record production and modest winter-heating demand leaving storage levels 11% higher than the five-year average. On Tuesday, natural gas for July delivery declined 5%, to $3.1450 a million British thermal units.

Prices fell to a one-month low following predictions of relatively cool weather through the first weeks of June.

During the summer, hot weather that prompts consumers to crank up air conditioners that run on gas-fired power typically drives demand. At the same time, the prospect of rising natural-gas production is also weighing on prices, analysts at FirstEnergy said in a note Monday.

Gas production in the Permian is expected to increase by 5.5 billion cubic feet a day from the end of last year to reach 12.5 billion cubic feet by the end of 2020, according to energy investment bank Tudor Pickering Holt & Co. in Houston.

The Marcellus, which has long been the fastest-expanding gas field, is likely to add 6.1 billion cubic feet during the same period, not much more than the Permian, though its total production will be two times that of Permian by 2020.

All that fresh output could send gas prices back down to historic lows next year, said Brandon Blossman, an analyst at Tudor Pickering. Permian "producers are concerned they can't get rid of it," he said. "They're not really concerned what they're going to get for it."

Six months ago, many analysts and executives thought a slowdown in drilling nationwide and increasing export demand could reverse the oversupply of natural gas. Some producers expected a shortage of pipelines to ship gas out of the oil patch might slow their move into the Permian.

But that picture has changed with the wave of new, cheap gas from the Permian and pipeline companies willing to spend on new connections.

New long-haul pipelines also are slated to unlock Marcellus supply for the Midwest and Southeast. Resurgent Haynesville-shale drilling is likely to boost output from Louisiana. All that potential supply is helping keep prices in the futures market at the lower end of their range from the past two decades.

Oil wells nationwide are expected to generate another 9 billion cubic feet a day of natural gas over the next several years, nearly covering all new demand, according to estimates from Tudor Pickering and Macquarie Group.

Many analysts expect the increasing supply to keep international prices low, too, as the U.S. becomes more of a global supplier. U.S. producers are shipping vast new amounts of gas to Mexico and several export terminals are set to open that will ship gas by sea.

Because Permian drillers are after oil, gas prices could hit historic lows, probably as little as $1.50 a million British thermal units, before it would stop them from drilling, according to energy consulting firm Wood Mackenzie.

From a fifth to a half of what comes up from a Permian oil well is actually natural gas or ethane, propane and other fuels called natural-gas liquids. Producers in the region are starting to concentrate in a part of the Permian called the Delaware, where volumes of everything are higher.

Oil companies want to move gas as quickly as possible so they can produce more oil, said Duane Kokinda, Kinder Morgan president. His firm held talks with customers this year and received bids in excess of the capacity on Kinder's natural-gas pipeline, Mr. Kokinda said. "Based on the demand we got," he said, "we're looking at making it bigger."

Write to Timothy Puko at tim.puko@wsj.com and Christopher M. Matthews at christopher.matthews@wsj.com

(END) Dow Jones Newswires

May 30, 2017 18:50 ET (22:50 GMT)