Is the US Shale Gas Phenomenon Under Threat?

The much publicised fall in crude oil prices over the last 7 months has caused an awful amount of chatter and jitters in the commodity markets. Brent crude prices fell by the end of January to below $50 per barrel for the first time since May 2009, US West Texas Intermediate crude followed suit and fell to below $48 per barrel. The key reasons for this have been weak demand in many countries due to insipid economic growth coupled with surging production.

The rumour mill also tuned up to overdrive late last year when there was considerable speculation by the ‘talking heads’ over when or not OPEC would cut production in order to steady the falling price. OPEC, led by Saudi Arabia, of course did not do this and continues to pump out oil at the same rate as it was before. Thus, prices continued to tumble and have only recently rallied above $50 per barrel.

As result of the price tumble, questions have been raised about the perceived profitability of the planned US shale gas projects and this has meant that some companies may now review the viability of their proposed plans. There is even a chance that some of these project might be cancelled, although this has yet to happen. So why is this?

Upon the advent of shale gas several companies announced their intentions to either expand existing plants or build new ones. The reason for this was down to the cost advantage that US producers could exploit from gas based feedstocks when much of the wider world relies on oil based naphtha. However, the sharp decline in the oil price has dented this advantage since the spreads between crude and natural gas has narrowed substantially. The President of Petral Consulting comments that “It has to force everybody who is planning to invest a couple of billion dollars in ethylene and propylene capacity to at least redo their economics based on a significantly lower price environment for at least a few years”. However, reviewing a project doesn’t mean it will be cancelled, since the fall in oil price quickened last December; no US projects have been cancelled. In short, to determine a projects feasibility over a life span of typically 20-30 years then the focus needs to be about better understanding the future.

However, for some it could already be too late to throw the gears into reverse as several companies have already broken ground on their projects. Indeed, there are other types of investments already being embarked upon such as the ethane terminals; three European petrochemical producers (INEOS, SABIC Europe & Borealis) have based their future feedstock supply needs on the back of these expansions and have procured long term time charters to import ethane gas to Europe. Others however, are looking at methanol based projects (Chinese investors are leading the way here) and gas-to-liquid (GTL) projects. These latter projects require a large gap between natural gas and crude prices since they would be competing with refineries on cost to produce fuel.

Perhaps the main concern for those producers who are relying heavily on outside financing is that they will have their plans more carefully scrutinised by the banks; these outside sources could become more doubtful if oil prices do not recover. Companies less reliant on outside financing may just wait it out and still pursue their projects. Ultimately, investing in a US shale gas project is still advantageous in terms of competitiveness, particularly when compared to Europe for example, as Brent crude would have to fall to $28 per barrel and the Henry Hub gas price would need to rise to $4 per MMBtu before this advantage could disappear.

Clarksons Blog 26 Feb 2015

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