November 14, 2013 at 14:31 PM EST
Profit From Natural Gas Infrastructure Expansion

natural gasKarim Rahemtulla, investment director of Oil and Energy Daily and emcee at the upcoming Liberty Forum, believes the day is near when you will be able to fill up your tank with natural gas in stations from coast to coast. Why? The same large oil companies with gas stations all over the country now have a considerable stake in the success of natural gas. For producers, the trend toward greater adoption could buoy prices for the energy source, increasing margins. In this interview with The Energy Report, Rahemtulla discusses benefactors of the trend—and throws in some good news on gold.

The Energy Report: Karim, why has it been difficult during the past several years to make money in natural gas?

Karim Rahemtulla: It was difficult up until the beginning of this year, but things have since started to turn around. There are many reasons behind the turnaround. There was a greater production of natural gas throughout the country, which drove down prices but did generate more interest in that product because it was cheaper. The pricing environment for natural gas is better this year, which has allowed companies to use better hedging strategies. It costs more to get natural gas out of the ground and into market than the market is actually paying for it, but if companies adopt a hedging strategy, they can get significantly more than what the market is paying. General investor interest in the natural gas space also has contributed to prices improving.

TER: As you suggest, it sometimes costs more to get the natural gas to market than it does to sell it. Will that change?

KR: It’s changing right now, but it’s still in the early stages. We’re not expecting a massive rise in natural gas prices, but we expect it could reach $4–6 per thousand cubic feet ($4–6 Mcf) during the next several years. It is just the function of the greater demand from transportation companies and consumers.

TER: Can investors still make money at those prices?

KR: Yes, they can. Chesapeake Energy Corp. (CHK:NYSE), a pure play on natural gas and oil, is an example. Even though natural gas prices were low, Chesapeake has managed to make money, sell some of its properties and rationalize its balance sheet. Its share price went from $14 in the middle of last year to $26 recently—that’s a massive move up in share price!

TER: Do you see Chesapeake returning to pre-2008 levels?

KR: The most optimistic target price I have for the next few years is somewhere in the mid $30s. That will be highly dependent on the price of natural gas moving to the $5 range and oil staying above $90 per barrel ($90/bbl).

TER: Why shouldn’t investors wait this out or even short natural gas?

KR: We are still very early in the cycle. Natural gas usage could double over the next decade. During the same timeframe, crude oil usage is expected to stay mostly flat. Natural gas is the fastest growing part of the energy sector.

The push behind that growth is related to transportation. Less than 1% of the transportation sector uses natural gas in the U.S., but that is rapidly changing. Engine manufacturer Cummins Inc. (CMI:NYSE) is incorporating natural gas. FedEx Corp. (FDX:NYSE), Waste Management Inc. (WM:NYSE) and United Parcel Service Inc. (NYSE:UPS) have incorporated natural gas trucks into their fleets. More and more companies are going in that direction, not only because the price of natural gas is so cheap, but because the infrastructure that will allow these fleets to fill up nationwide is expanding. There is already a company building natural gas stations across the country.

Companies in this sector still have tremendously cheap valuations, however. These stocks have been crushed because the natural gas price plummeted. Companies like Encana Corp. (ECA:TSX; ECA:NYSE) in Canada, which has been one of the largest natural gas companies out there, is trading at ridiculously low multiples to what it could be trading at if natural gas was up only another $0.50–1.

TER: Should investors be buying on pullbacks in the natural gas price?

KR: The cheaper natural gas gets, the better the story gets. I’m actually hoping natural gas crashes again, but it’s not going to happen because there is enough sustained demand and the economy is strong enough—that’s a good thing. Valuations are so low that it makes sense to get in now or if it pulls back another 10–30%. If there were another crash in prices, that would be great—investors could buy more at even cheaper prices.

The story is getting out there, however. Last year, it was just professionals who understood the story. Natural gas got down to $2/Mcf and there weren’t really any regular guys out there buying natural gas futures, but when natural gas hit $4, somebody made a lot of money. People who knew what was going on in the industry saw greater adoption rates, saw companies innovating and using natural gas, saw all the utility companies switching over from coal to natural gas—when you see all those things from the inside, you know there is burgeoning demand for the product. What happens day to day in natural gas is less relevant than the trend.

TER: What types of natural gas equities do you find most promising right now?

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