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Why Shale Gas is the Biggest Story in the Energy Markets

Despite all the nonsense going on in the stock market right now, there are actually real things happening in the real economy that lead to real investors making real money from real stocks! Really!

Take mining service minnow AJ Lucas (ASX: AJL). The share jumped over 19% on Friday. It was up by as much as 25% at one point? Why?

AJL has a 42% stake in Cuadrilla Resources. Cuadrilla is one of the only firms in Britain with a license to explore for shale gas in the UK. On Friday, UK Energy Secretary Edward Davey released a statement saying, ‘I am in principle prepared to consent to new fracking proposals for shale gas, where all other necessary permissions and consents are in place.’

The downside of this statement is that AJ is still exposed to government intervention in its business. That is, the stock could just as easily go down 20% if the government changes its mind, or if there is some unforseen legal obstacle. Punters better strap themselves in for a wild ride.

But the upside is great. And it makes a clear point: you can find news-driven, event-driven shares capable of big gains even in a fraud of a stock market. These share price movements are almost completely uncorrelated to the words coming out of Ben Bernanke’s mouth. AJ Lucas and Cuadrilla may or may not find gas. But whether the natural gas is there doesn’t depend on anything a central banker does.

Of course, in an indirect sense, the actions of the bankers affect us all. An artificially low price of credit can generate artificially high consumer demand, including for energy. This false signal can lure a company into borrowing money to produce a product or good whose demand isn’t as robust as it looks. You get what the Austrian school of economics calls mis-allocated capital. It all originates with some wonk at a central bank thinking he knows exactly what the price of money should be.

But even though the fortunes of a small energy exploration stock are remotely linked to monetary policy (on the demand side), the supply side is a whole different story. There is no printing press for hydrocarbons. You have to go out and find them. And then you have to extract them at a profit.

This is why shale gas is the biggest story in the energy markets, and could be even bigger in 2013. Caudrilla says that if it finds what it expects to find in Lancashire, its eventual gas production could cut wholesale natural gas prices in Britain by 2-4%. That might be a lot of nonsense. But this is just one company and one project we’re talking about.

The British Geological Survey reckons that the country could have 5.3 trillion cubic feet of on-shore natural gas reserves. That figure will be updated this year to include estimates of shale gas reserves. You can bet it will almost certainly be higher. Barring a regulatory set back, this new resource estimate could be a huge boost to shale gas shares in the UK.

There’s a big geopolitical aspect to this as well. The International Energy Agency reckons that the United States will overtake Russia in natural gas production by 2015. Then, it will overtake Saudi Arabia by 2017. Through a market-place driven improvement in extraction, the US will have achieved a global energy coup, and given every other country a blueprint on how to do it.

Is the whole industry lying about its longevity? Is it just a giant spruik? Is it the last desperate grasp to squeeze the earth of its remaining pockets of fossil fuels…and then leave the place an empty, dry, hot husk?

Time will tell. But the longer it goes, the more it looks shale gas has effectively ‘fracked’ the geopolitical order based on Middle Eastern oil exports. It truly is a Revolution in the Desert, as we reported last year. And for Australia, this is potentially a huge story.

Energy is the feedstock of the economy. You can’t do anything without energy. But WITH cheaper energy, you suddenly are much more competitive when it comes to manufacturing. What you’ve lost in competitiveness on labour costs you’ve begun to make up with cheaper energy costs. More on this tomorrow.

Regards,

Dan Denning
for The Daily Reckoning Australia

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1 Comment

  1. Jason says:

    This is a bubble, nothing more.

    The costs to produce shale oil and gas increase as the reserves deplete, which they do rapidly due to the extraction processes and technology. The cost begins at high levels to begin with. Its like running faster and faster on a tredmill. The shale oil and gas production will never replace the much larger amounts of conventional crude oil as the depoits are smaller and harder to extract. And all this before all the environmental effects such as polluted water tables and the like.
    Shale gas and shale oil will not ‘save the world’ from Peak Oil.

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