The Natural Gas Budget Shortfall

State policy leaders around the country are coming to realize the long-term importance of natural gas exports to the health of their economies.

They are struggling to pass their 2013 budgets this year.

The recent low in natural gas prices is doing more than just hamstring production around the country. It's also slashing government budget forecasts due to the loss of tax revenue associated with natural gas sales.

So much so, that states are predicting steep decreases in revenues through 2014.

USA Today reported this week that "Energy-producing states are bracing for lower tax revenue from the plummeting price of natural gas, which is just above half of what some states forecast when they put together budgets for 2013 and beyond."

Low natural gas prices could cost Wyoming $125 million next year, and that the state will likely have to enact budget cuts of 8% for the year 2014 if prices don't recover by then. In Oklahoma, just a $1 drop in gas prices leads to a roughly $70 million shortfall for the state each year.

It's a rather staggering figure.

But Oklahoma's state Treasurer Ken Miller states that the "free market" will work itself out over the long term and natural gas prices will rise, particularly as large-scale coal-fired power plants convert to natural gas use.

More on that in a second.

As we've said before, the price rebound is inevitable. But we have to look at how we got here and where we're going to make sense of this situation.

First, the major technological breakthroughs in fracking and horizontal drilling have significantly increased the amount of unconventional resources available around the country. So much natural gas has been produced, combined with an unseasonably warm winter, that natural gas prices have slumped significantly.

This has naturally affected producers in the short-term, although midstream storage and pipeline companies remain healthy due to their contract structures as value chain suppliers.

But low natural gas prices won't last forever. Overtime, we're going to see prices begin to rise for four reasons.

Natural Gas Prices: States Fight Against Time

The first, as Miller mentioned, are power plant conversions. As for the other three, I covered them in February. At the time I wrote:
"By 2020, more than 90 gigawatts (GW) of electricity generation will come offline. Most of this power reduction will come from the retiring of coal-fired power plants.

Our current estimates show that new natural gas plants would account for 1.2 billion cubic feet (BCF) per day of additional natural gas usage.

The second and third demand factors also come from companies using natural gas as a replacement for conventional fuels.

At the moment, greater usage is being made (and even more so in the future) of natural gas as feeder stock for the production of petrochemicals rather than crude oil. Yet as the price of crude oil rises, and regulations target carbon emissions, companies will look to natural gas a lower-cost alternative.

Finally, international demand for natural gas will be a game changer for the U.S. markets.

Like the United States, foreign countries are transitioning their economies away from coal-fired and nuclear power plants. An energy-starved world is hungry for cleaner, safer, and cheaper sources of power. U.S. companies are fully prepared to begin transporting LNG to foreign customers, especially as domestic prices hit rock bottom."

This stage began to boom last year with Cheniere Energy's (AMEX: LNG) announcement of the Sabine Pass terminal, which was just cleared for construction by the FERC last week.

As greater quantities of natural gas are transported out of the U.S., we'll witness a shift in the demand curve, as new customers in energy-starved countries (England), countries where fracking has been banned (France), and countries with exploding populations (India) begin to import LNG.

That will have a strong impact on prices and production margins for producers and drillers.

Given these four major trends and current market conditions,late 2014/early 2015 appears to be the time when the LNG markets will be in full swing.

By then, states across the country will be happy to see that additional revenue back on their books. But, unfortunately for them, they can't capitalize on production the way that investors can with natural gas prices near record lows and poised to break out.

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