Natural gas is gushing out of West Texas, a byproduct of frenzied drilling for oil. That is a problem for energy producers, who are running out of places to send it all.
Pipelines running from the region's Permian Basin to the Gulf Coast's chemical plants, cities and export terminals are essentially full. Drillers in the Rockies and Canada already supply markets in the north and west.
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There is plenty of room on pipelines running south to Mexico, which has emerged as a major market for U.S. producers, but there is a catch: much of the gas distribution infrastructure and power plants there that would buy the fuel haven't been built yet.
The growing gas glut is already weighing on regional prices. Natural gas prices at the WaHa trading hub in West Texas have fallen to much as 57 cents per million British thermal units -- or about 20% -- below spot prices at Louisiana's Henry Hub, the national benchmark, according to S&P Global Platts. Analysts forecast the gap exceeding $1 next year, or about a third of the $3 that U.S. natural gas futures have hovered around this year.
That is good news to regional gas consumers, such as power producers, who can profit from the lower price. Electricity provider Vistra Energy Corp. said it paid $350 million in August for a power plant in Odessa, Texas, to take advantage of the cheap fuel.
But for oil and gas producers, the excess supply could potentially force them to take drastic measures -- such as capping wells and curtailing oil drilling -- until new pipelines to the Gulf Coast are built and planned power plants come online in Mexico.
"We're headed into a situation that's never happened before," said Rusty Braziel, a former trader who heads consultant RBN Energy LLC. "They're making money on crude. They need to make sure the lack of gas takeaway capacity doesn't affect their crude production."
So far, Permian drillers have been unresponsive to falling local gas prices, focusing instead on U.S. crude prices which are trading around a two-year high at about $57 a barrel. Last week, 391 rigs were operating in the Permian, up 71% from a year ago, according to Baker Hughes.
But gas is fast becoming a major issue for companies in West Texas. Some drillers are racing to lock up space on pipelines so they can get their gas out of the Permian. Analysts say pipeline access could become important information tracked by energy investors.
Some companies, like Centennial Resource Development Inc., are paying for guarantees that their gas gets delivered. The oil producer's finance chief George Glyphis recently told analysts that a roughly 14% increase in the company's third-quarter gathering and transportation costs was mostly due to paying pipeline operators to guarantee space, "a prudent measure to ensure that our gas gets to market so that oil production can proceed unabated."
Permian producers including Encana Corp. and WPX Energy Inc. have also recently highlighted steps they have taken to ensure they can move gas out of the West Texas.
Pipeline operators are poised to benefit from the congestion due to higher volumes moving through their tubes and in some cases by trading in the fuel and charging more for space.
Kinder Morgan Inc. says the glut has spurred producers to sign up for space on a 430-mile-long pipeline that it and two rivals plan to build between WaHa and a trading hub near Corpus Christi.
The demand reflects concerns "that the volumes going to Mexico...are not materializing as quickly, maybe, as the pipeline capacity to move to Mexico has materialized," Kinder Morgan Chief Executive Steven Kean told investors last month.
That pipeline, the Gulf Coast Express, and three competing trade routes won't be completed until at least late 2019, though. Meanwhile, producers' hopes are pinned to Mexico, which in August imported nearly 5% of total U.S. production, according to U.S. Energy Information Administration data.
Mexico is likely to import increasing volumes of gas to fuel new power plants as it replaces aging ones that burn oil and coal with gas-fueled facilities. That is part of a plan to open its energy sector to private investment and create a market for wholesale power.
Much of the added demand from Mexico will be piped from the Permian -- eventually.
"If Mexican pipelines are not on by the end of next year, we could even see shut ins and flaring," Sanford C. Bernstein & Co. analysts said in a recent report, referring to extreme measures like capping wells, curtailing drilling and setting gas aflame in the desert instead of selling it.
Bernstein analysts estimate that the roughly 6 billion cubic feet of gas that needs to be moved out of West Texas each day will rise to 8.5 billion cubic feet by late 2019, assuming oil prices remain high enough to encourage drilling. That will exceed what pipelines can transport north, east and west from the Permian.
"There is a very pertinent timing issue," said Ross Wyeno, an analyst at S&P Global Platts. "Will this Mexican capacity come online in late 2018 to help alleviate this looming constraint?"
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(END) Dow Jones Newswires
November 20, 2017 08:14 ET (13:14 GMT)