Just three years ago, the main topic of conversation for the North American natural gas markets was liquefied natural gas (LNG).

For those unfamiliar with LNG, it’s nothing more than super-cooled natural gas. When gas is cooled to around minus 260 degrees Fahrenheit (minus 162 degrees Celsius), it condenses into a liquid.

Better still, as gas cools, it takes up less space; LNG takes up roughly one-six-hundred-and-tenth the volume of gas in its natural gaseous state. To put that into context, a beach ball-sized volume of gas shrinks to the size of a standard ping pong ball when it’s converted to LNG.

The benefit of this is transport. Traditionally, the vast majority of natural gas has been transported in its normal gaseous state by pipeline. So most natural gas consumed in the US was either produced domestically or imported by pipeline from neighboring Canada.

By extension, gas reserves located far from existing pipeline infrastructure had little or no value. Although oil from such fields can be loaded onto tankers and shipped anywhere in the world, gas was considered stranded. Stranded natural gas was routinely burned (flared) or re-injected into the ground as a form of permanent storage.

LNG frees gas from the pipeline grid. If you’re able to turn natural gas into a liquid, it can be loaded onto tankers just like crude oil and transported anywhere in the world. Gas reserves once considered stranded and useless can be exploited using LNG technologies.

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The conventional wisdom just three years ago was that with Canadian gas exports to the US likely to fall and domestic production at best stagnant, the US would need to source more LNG from further afield; LNG from Russia, the Middle East, Australia and Africa would fill the gap.

Back to the US

But what a difference three years can make. This year, US natural gas production is projected to rise at the fastest pace since the 1950s--an astounding 4.4 billion cubic feet (bcf) per day for 2008 alone. This is no one-off fluke. Although production in Canada and Russia actually shrank in 2007, US production rose 2.2 bcf per day. A similar 2.2-bcf-per-day jump in production is projected for 2009 and, quite possibly, for 2010.

The US is already the world’s second largest producer of natural gas with 2007 production of 52.8 bcf per day compared to Russia’s 58.8. Both nations were well ahead of No. 3 producer Canada, which had just 17.8 bcf per day in output. But here’s what’s even more astounding: With projected production of 61.8 bcf per day in 2009, it’s quite possible the US will be the world’s largest gas producer depending on how quickly Russia can ramp up supplies.

During second quarter earnings season this year, I still heard significant talk of LNG. But the perspective is totally different. There’s very real talk of North America becoming an exporter of LNG rather than a big importer.

Chesapeake Energy is one of the largest natural gas exploration and production (E&P) firms in the US. Chesapeake’s CEO, Aubrey McClendon is also one of the most astute players in the US natural gas market; we can’t afford to take anything he says lightly. Check out this quote from Mr. McClendon during the company’s second quarter call:

…We will look at investing in LNG export facilities, and we are studying that right now. We’ve got to figure out a way to get some linkage to the world market, and we are dedicated to trying to find a way to achieve that linkage…I can’t talk too much about it, other than to tell you that we read the papers and see that gas around the world goes for twice what it goes for here [in the US]. And so, my view is that we make a great widget here, and that widget is valued at X here and 2X around the world. So I am trying to figure out a way to get it on a boat, and get it to some overseas markets as well…. 

Source: Chesapeake Energy Corporation Q2 2008 Earnings Conference Call, Aug. 1, 2008

The US has built several LNG import terminals over the past few years in anticipation of a surge in demand for imports. But with overseas gas prices close to twice what they are in the US, what we really need is an LNG export terminal. This way we could transport cheap US gas to foreign markets where demand is sky-high.

This isn’t the first time this idea has seen the light of day, and I suspect you’ll hear more about it in coming quarters.

Another topic that received considerable attention during this quarter’s earnings season: compressed natural gas (CNG). CNG is a form of natural gas that can be loaded onto vehicles such as buses, taxis and passenger cars. Currently only about 1.5 percent of US natural gas consumption goes to the transportation industry; diesel and gasoline derived from crude oil still rule US highways.

But CNG has several advantages over crude-derived fuels. First, it’s far more environmentally friendly, producing little or no particulate emissions and a fraction of the sulphur dioxide, nitrous oxide and carbon dioxide. Secondly, it’s far cheaper than crude oil: At $115 per barrel, crude costs about $19 per million British thermal units (MMBtu) compared to less than $9 for natural gas today. And finally, growing US natural gas production means that CNG could cut oil import dependence, at least to some extent.

Admittedly, this is an idea in its early stages, and there are significant infrastructure and practical hurdles. Nonetheless, billionaire T. Boone Pickens spent $60 million on a national television campaign promoting this idea, and he’s pitched his plan to both Presidential candidates.

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In my opinion, expanding the use of natural gas as a transportation fuel is a good deal more practical and feasible than promoting solar power and other forms of renewable energy as a short-term solution to meeting US electricity demand. 
Enabling the Growth

All of this optimistic talk of US natural gas production brings us to an obvious question: Where is the rapid growth in US gas production coming from?

The answer is simple: unconventional gas production, mainly from onshore reserves in the lower 48 states. The term unconventional--or non-conventional--refers to any field that can’t be produced economically using traditional well technologies.

In many cases, producers have known about the existence of unconventional gas and oil fields for many decades. But, using conventional technologies and at lower gas prices it was absolutely uneconomic to produce those fields. There are really two key enabling technologies for unconventional gas and oil production: horizontal/directional drilling techniques and fracturing. Technologies surrounding these two key techniques have advanced by quantum leaps in recent years.

Unconventional gas production already makes up close to 40 percent of US gas output. And that number is only going to rise in the coming years. Check out the chart below for a closer look.

This chart depicts US production broken down by source. The chart shows historical data going back to 2004 and projections out to 2030 from the Energy Information Administration’s (EIA) most recent report.

As you can see, not only is unconventional production the most important single source of gas in the US, it’s also one of the only sources that’s likely to show real growth in the coming years. And consider that as recently as 2000, conventional gas production was far higher than unconventional production. These reserves have come to dominate the US gas market.

 In the last issue of my paid newsletter, The Energy Strategist, I spilled considerable ink discussing the rapid growth in unconventional US gas production; I discussed two of the most promising fields—the Barnett Shale of Texas and the Haynesville Shale in Louisiana—at some length. The latter play has the potential to more than double US gas reserves and could eventually become the number one source of US gas production.

Unconventional gas and oil production remains one of the most exciting and potentially game-changing investment themes in the energy patch. As a result, I’m currently working on a detailed guide to North American unconventional gas and oil fields including the Bakken oil play, Marcellus gas shale and, of course, the Barnett and Haynesville plays.

A solid understanding of North America’s most promising gas and oil plays as well as the most important producers in each region is absolutely crucial to profiting from natural gas markets in coming years. Look for that report in next week’s issue of The Energy Strategist.

Speaking Engagements

Fall is the perfect time to enjoy Washington, DC’s outdoor treasures and catch a glimpse of nature’s splendor. And this year you can enjoy the immediate aftermath of the Presidential election in the seat if the federal government.

Join me and my colleagues Neil George and Roger Conrad for the DC Money Show, Nov. 6-8, 2008, at The Wardman Park Marriott.

Go to www.moneyshow.com or call 800-970-4355 and refer to priority code 011361 to register as our guest.

We also have a special invitation for our readers. KCI Communications, Inc., is organizing an exciting 11-day investment cruise Dec. 1-12 through the Caribbean and Panama Canal. Participants will have the opportunity to meet and chat with my colleagues Roger Conrad, Gregg Early and Neil George.

This will be a unique opportunity to step away from your daily routines, relax in one of the most beautiful parts of the world and share analysts’ knowledge and passion for the markets. During the sail, you’ll not only explore the cerulean splendor of the Caribbean, but you’ll also delve deep into current markets in search of the most profitable opportunities for your portfolios. You’ll also have the rare chance to sail through one of the world’s engineering marvels, the Panama Canal.

It’s always a special treat to meet and talk with subscribers in person, and we couldn’t have picked a better setting than aboard the six-star Crystal Serenity. This is sure to be an especially memorable experience. We hope you’ll join us.

For more information, please click here or call 877-238-1270.