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Vol. 15, No. 20 Week of May 16, 2010
Providing coverage of Alaska and northern Canada's oil and gas industry

Why Alaska gas got top dollar

PRA explains why natural gas prices higher in state in 2010, reversing 50-year trend

Eric Lidji

For Petroleum News

For almost 50 years, this was the truism: Alaska natural gas, relatively speaking, is a steal.

Explorers who accidentally discovered huge natural gas fields in the Cook Inlet basin in the 1950s and 1960s faced a stranded market. With an export terminal letting them make money overseas, Southcentral prices ended up being the cheapest in the United States, by a lot.

That distinction lasted wells into the 2000s, even as local prices began rising once decades-long contracts ended and contracts using new pricing went into effect.

Regional gas prices jumped 140 percent between 2001 and 2004 and another 120 percent between 2004 and 2007, according to a March report from Petrotechnical Resources of Alaska, or PRA. Even so, those rapidly increasing prices stayed below the Lower 48 average.

Until late 2008.

Around that time, Alaska gas began trading at a premium to the Lower 48. The spread depends on how you measure the average, and it’s been narrowing, but the overall result is unprecedented: at times Alaska natural gas has been the most expensive in the country.

Two overlapping factors

The cause appears to be two overlapping factors: the national recession and the oddity of the local marketplace.

The stock market collapse in September 2008 pulled commodity prices down nationally. While national spot prices influence Alaska contracted prices, the influence usually lags by a full quarter or more, during which time fluctuations can get averaged out. Around the new year, new Alaska contracts actually bumped prices up.

In July 2008, Alaska city gate prices, the price when gas enters the local distribution grid, were half the national average, $6.59 per thousand cubic feet compared to $12.48 per mcf, according to the U.S. Energy Information Administration.

By January 2009, Alaska prices increased to $8.16 per mcf, while the national average fell to $7.98 per mcf.

Another factor is oil prices, or more precisely, the difference between oil prices and gas prices. One of Enstar Natural Gas’ contracts, less than half its total volumes, is priced according to average summer oil prices. In the summer of 2008, oil and gas prices both hit record highs.

In the fall, both tanked.

Then oil prices rose again, much faster than gas.

Alaska is still working off high oil prices. The Lower 48 doesn’t have that problem.

A final factor is Japan. Some averages include the price of liquefied natural gas volumes exported from the Kenai Peninsula to Tokyo Electric Power Co. and Tokyo Gas Corp.

ConocoPhillips, the largest natural gas producer in Alaska and a majority owner in the LNG export facility, includes these shipments in the price average it reports quarterly.

In the third quarter of 2008, ConocoPhillips reported average sale prices of $4.36 per thousand cubic feet in Alaska and $8.67 per mcf in the Lower 48.

In the fourth quarter of that year, Alaska gas rose to $4.90 per mcf and Lower 48 gas tanked, to $4.76 per mcf.

In the first quarter of 2009, ConocoPhillips traded Alaska gas at $7.69 per mcf, more than double its Lower 48 average of $3.76 per mcf.

That premium moderated throughout the year, but 2009 is most likely the first time ConocoPhillips got higher prices in Alaska.

Buyers and sellers beware

In a normal marketplace, price premiums would prompt exploration companies to look for new supplies, and lead buyers to search for better deals. But Alaska is not normal.

Enstar and Chugach Electric Association, the two largest gas users in the region, buy volumes on long-term contracts approved by regulators after lengthy deliberations.

Even if they could easily bypass local producers, though, Enstar and Chugach would find it next to impossible to pull off. Alaska is so isolated that any alternative seller would have to be charging a price far enough below local rates to justify shipments north.

Even if the price was right, though, the technology isn’t: Alaska can’t handle LNG imports.

From the seller’s standpoint, the situation is no less complicated.

The recent premiums in Alaska aren’t systemic. They’re caused by converging quirks: a once in a generation recession colliding with a market dominated by long-term contracts.

In 2010 first quarter filings, ConocoPhillips reported nearly equal prices: $5.28 per mcf for Alaska and $5.21 per mcf for the Lower 48.

According to the EIA, the February 2010 city gate price in Alaska was $6.68 per mcf, compared with $6.62 per mcf nationally.

That hasn’t stopped some ambitious explorers from singing Alaska’s praises.

Linc Energy Limited and Buccaneer Energy Limited, a pair of Australian independent exploration companies that picked up acreage in Alaska this year, both listed local natural gas prices among the qualities that made the Cook Inlet basin an attractive place to invest.

Both companies traced that advantage to declining production, rather than the unique indexes that guide contract pricing in Alaska.

Now, the advantage is disappearing.

Price collars in the future

For the next few years, Alaska might track the Lower 48 more closely.

Enstar and Chugach have short-term contracts with Marathon Oil pending before regulators that would base local prices to futures on the New York Mercantile Exchange, with adjustments for factors like seasonal demand, shut-in wells and price “collars.”

The Chugach contract begins with a floor of $5.90 and a ceiling of $8.90 per thousand cubic feet and rises to $6.50 and $9.50.

The Enstar contract includes a price floor of $6.85 per thousand cubic feet and a price ceiling of $9.70 per thousand cubic feet.

Independent companies like Linc and Buccaneer that hope to drill for, find and one day sell Cook Inlet gas may find more guidance from a recently approved contract between Enstar and Anchor Point Energy, an affiliate of the independent Armstrong Cook Inlet.

That contract also is indexed to an NYMEX futures average and also is bounded by an inflation adjusted price “collar,” a floor of $6.85 per mcf and a ceiling of $9.90 per mcf.

The NYMEX futures price started the year at $6 per mcf and is now closer to $4 per mcf.

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