HAS NATURAL GAS MOMENT ARRIVED ? / THE WALL STREET JOURNAL ( HIGHLY RECOMMENDED READING )

COMMODITIES

DECEMBER 16, 2009.

Has Natural Gas's Moment Arrived?

By ANN DAVIS, BEN CASSELMAN And REBECCA SMITH

After a decade-long wild ride, North American natural-gas prices seem to be entering a period of stability, which is likely to change the way Americans heat their homes, generate their electricity and maybe even fuel their cars.

Gas producers have been arguing for some time that new sources of the fuel have made it both plentiful and reliable. But residential and industrial consumers, from homeowners to power utilities, have been reluctant to increase their dependence on natural gas because of concerns about price volatility.

This appears to be changing, thanks to a combination of factors. Huge new discoveries in the U.S. and Canada have greatly increased supplies, lowering prices. Big infrastructure build-outs in recent years have made it easier to move gas around to where it needed, helping ease regional price spikes.

And now comes Exxon Mobil Corp.'s decision, announced Monday, to buy one of the largest U.S. gas producers, XTO Energy Inc. It is the latest sign that deep-pocketed corporate giants see U.S. natural gas, especially gas found in shale rock and other unconventional formations, as a giant resource.

Such players have long-range programs to fund exploration even when prices are low, resulting in less on-again, off-again drilling by smaller, less financially resilient companies.

Meanwhile, Rep. Ed Markey (D., Mass.), chairman of the House Energy and Environment Subcommittee of the Energy and Commerce Committee, said he planned a hearing into Exxon's acquisition of XTO.

A staff member for the committee said the hearings, expected early next year, would look at the effects of the merger on competition in the natural-gas industry, where natural gas fits into the future U.S. energy mix, and environmental questions that have been raised about the production of natural gas from shale-rock formations.

Exxon officials declined to comment.

Gas producers hope the Exxon deal will help them convince federal officials and power executives that prices are entering a period of relative calm. The Energy Information Administration, an arm of the U.S. government, on Monday projected natural gas prices would remain below $7 per million British thermal units through 2025.

"If you went to Washington in March and talked about the abundance of natural gas, you basically got blank stares," said David Trice, chairman of gas producer Newfield Exploration Co. "The skeptics out there should take heart that you've got a company that is known to be cautious and do their homework and they've made a $41 billion bet that this is the right thing."

Exxon is offering $31 billion in its own shares for XTO and will assume $10 billion in debt.

Many now see gas as a versatile fuel that ought to be deployed more widely (gas generation provides about one-fifth of U.S. electricity and heat for about half of U.S. homes).

Some advocates argue that long-haul trucks—and perhaps even cars—should be converted to use natural gas, as they are in Argentina.

Gas prices generally fluctuate with the season, rising in the winter when heating demand is highest. But in the past decade they have been particularly volatile, as hurricanes knocked out drilling rigs in the Gulf of Mexico and financial speculation and trading blow-ups roiled the market.

In 2000, gas prices surged from $2.50 per million BTUs to almost $10 by the end of the year; eight months later, they were back under $3. Prices peaked at more than $15 in 2005 after hurricanes Katrina and Rita and fell back below $7 just two months later. They spiked again in July 2008, to more than $13 per million BTUS, but plummeted to under $3 this past September and closed Tuesday at $5.523.

And, despite the promise of recent big gas finds, many industrial users remain skeptical. Paul Cicio, president of Industrial Energy Consumers of America, says he worries about roadblocks being thrown up by the environmental impact of drilling. "I'm concerned that's going to impact supply and make the cost higher," he says.

The power utility industry in particular has been reluctant to depend too much on natural gas. The last time it went on a binge to build gas-fired power plants, early in this decade, the fuel's price rose steeply partly in response to the new demand, driving many generation companies into bankruptcy court.

But Exxon hopes to change that thinking. "Natural gas is really well-suited to meet that growing power generation demand, both from the standpoint of its lower environmental impact, but also its capital efficiency and its flexibility," said Exxon Chairman and Chief Executive Rex Tillerson this week.

Exxon believes that natural gas will elbow coal out of its spot as the most economic way to make electricity in the U.S. The company says it expects the U.S. will soon put a price tag on carbon emissions. Since making electricity from coal produces a lot more carbon, natural gas would become the most cost effective way to keep the lights on, it says.

As a result, it expects existing gas plants to run more often and coal plants to be retired, which was occurring even before the Exxon-XTO deal. Earlier this month, Progress Energy Inc. said it would shutter 11 coal-fire plants over the next eight years and replace them with gas units.

The power industry is looking at gas as a "bridge fuel" that will help it wean itself off coal and provide a transition to cleaner sources of power generation. Already, electricity-related carbon dioxide emissions fell 2.9% in 2008 due to switching from coal to gas and lower overall electricity use. That compares with average growth of 1% a year from 1990 to 2007, according to the Environmental Protection Agency.

Low gas prices create a problem for the emerging renewable-energy industry, though. In many states, renewable energy generators are paid a price for power that is pegged to gas-fired power costs. So low gas prices make it harder for renewable generators to compete.

The U.S. Energy Information Administration predicts widening use of natural gas for power. In an outlook published Monday, the agency said natural gas will account for 46% of all power plant capacity additions from 2008 to 2035.

The abundance of gas is largely thanks to a new technique to unlock dense rock first tried successfully in the 1990s and early 2000s in the Barnett Shale under Fort Worth, Texas. Riding this success and fueled by cheap financing, energy companies fanned out across the U.S. in search of new fields. What they found has fundamentally reshaped the industry's understanding of how much gas lay beneath the U.S.

—Russell Gold contributed to this article.

Copyright 2009 Dow Jones & Company, Inc. All Rights Reserved