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Bottom Shekel Natural Gas Investors, You Stand Warned

The revolution has come, and it's called shale gas.

At least one group in Israel welcomed the revolution in Egypt with cheers: investors in the natural gas exploration companies. Upon learning that the status of Egyptian gas supplies had weakened, there was a stampede for stock in the Israeli companies. In their delight, the investors failed to notice another event, no less important, in their very own backyard: a lecture by Bank of Israel Governor Stanley Fischer at a conference of the Institute for National Security Studies at Tel Aviv University.

"The natural resources discovered in Israel recently are important and significant," Fischer said. "But we have to acknowledge their dimensions and treat them accordingly. Income from the Tamar and Leviathan drilling operations are likely to total around 1% to 1.5% of annual GDP. By comparison, the Norwegian government's [gas] income is around 15% [of Norway's GDP] a year."

natural gas drilling

Moreover, pointed out the governor, the gas isn't being extracted just yet; technological challenges need to be overcome before the gas can be produced and exported.

Also, technological advances around the world may depress gas prices, Fischer added.

Indeed, that may be so. Technological advances have rendered vast amounts of natural gas accessible, notably gas trapped in underground shale basins. "The greatest shift in energy-reserve estimates in the last half century," is how John Deutch describes the advance.

Deutch, a former head of the CIA, was a guest of the Institute for National Security Studies. He has also held senior positions in government including under secretary of defense for acquisition, technology and logistics, and director of energy research at the U.S. Department of Energy.

Also a chemistry professor at MIT and a member of that lofty institution's think tank on the future of natural gas, Deutch clearly knows whereof he speaks on geopolitics, energy and security, especially where those three come together. So when Deutch talks about a revolution in natural gas, that it will replace oil as the world's chief energy source and that OPEC's glory will fade - one should pay attention.

All this is going to happen, says Deutch, because of shale - yes, that humble rock so common around the world in which natural gas is often trapped. Shale gas, it's called, and in 2008 came the revolution. Everybody knew the gas was there but thought it was inaccessible. Then along came technology and changed that, making shale an accessible, large and cheap gas source.

Large? How about huge. In America alone, estimates in 2007 put gas reserves at 250 trillion cubic feet, of which 22 trillion cubic feet is shale gas. In 2011 those estimates jumped tenfold to 2,500 trillion cubic feet, of which 700 trillion cubic feet is shale gas. Until now the United States has been an importer of gas; within four years it's expected to start exporting it.

These developments have already dramatically affected the U.S. economy. The price of gas in the American market dropped to a low of $4 per million BTU (British thermal units ). The heavy investment in 12 facilities to liquefy natural gas imported to the United States is now a complete waste. Their operation has dwindled from 50% of capacity to 11%.

(A BTU is the amount of heat required to increase the temperature of a pint of water by one degree Fahrenheit. The Energy dictionary website helpfully provides the comparison that a match produces about 1 BTU. It also helpfully points out that a single cubic foot of natural gas produces approximately 1,000 BTUs. )

Deutch risks predicting that the revolution of 2008 in the American gas industry will shortly spread to Europe and Asia.

Now, while there is only one price for oil (thanks to the OPEC cartel ), there are three entirely dissociated markets for gas: the United States, Europe and Asia. That's because the cost of transporting gas, by pipelines over thousands of kilometers or by liquefying it and shipping by tanker, is prohibitive. So the three markets are geographically dissociated, and economically too. Each dances to a different tune.

In America, natural gas competed with local coal, and didn't cost much: about $4 per million BTU. In Asia, local gas supplies competed with imported oil and cost much more: $10 to $11 per mBTU. In Europe, which has its own source of gas as well as supply by pipeline from Africa and Russia, as well as imports of LNG, gas averages $8 to $9 per mBTU.

That will end, Deutch predicts. He thinks the world is heading for a single giant gas market that will replace oil. Two processes are leading in that direction; the first is the rising volume of trade in gas thanks to the new discoveries. The second is the technological advance enabling gas to be produced from shale.

Everybody thought the price of natural gas would be directly linked to trade in oil, says Deutch - but that will change. Since gas is already much cheaper than oil, it will replace oil over time, not only for transport but in making plastics and in petrochemistry, he says.

In fact, Deutch predicts that natural gas will become a standard commodity, traded at a uniform price in world markets. No longer will gas cost $4 per mBTU in New York and $10 in Tokyo.

On the one hand, we learn, once gas becomes a commodity, it will unseat oil as the main source of energy. On the other hand, there is a huge supply of the stuff in the world, so prices are likely to drop. And that begins to explain Fischer's warning.