Invest Like the Best with Patrick O'Shaughnessy
· Matthew Smith, Patrick O'Shaughnessy
[00:00:00] S1: In some cases, it's processing. The natural gas flows to the surface with natural gas liquids embedded therein. In some cases, there's sulfur or nitrogen that has to be dealt with. In some cases, it comes with oil, and so you have to have surface-level infrastructure to produce the oil, which is different. Gas primarily has to be produced into a pipeline system, and there's a certain spec on regulated pipelines — that's 1,010, 1,030 BTU is the spec. So you have to remove enough of these other hydrocarbons to get it to pipeline spec, to be able to produce it into the system to be consumed by folks downstream. So processing is the first major constraint. There are a couple of basins with a little bit of extra processing — we'll fill it up pretty quickly. We do not have processing yet to get to our assumed 20 Bcf production target that's necessary, but processing would be something— it takes either two or three years to build, at the midpoint. We generally know what processing investments are being made and the projects that have been announced by Permian processors or by Appalachian processors. We know where the materials and liquids handling throughput capacity will be in '27, '28 at least. You really would need to, in the near term, even to get to our 20 Bcf of incremental gas production we're willing to estimate, you need to have more processing built. [00:00:00] S0: Build stuff now.
· Patrick O'Shaughnessy, Matthew Smith
[00:00:00] S0: Build stuff now. [00:00:00] S1: Point one. Build it now, imminently. Small diameter pipes — gathering is what takes it from the wellhead to processing or pipeline system. There is a fair amount of disclosure around processing systems being expanded and built, and we would posit we have put all those on a map, on top of every one of these wells at their lat and longs. In order to grow even a fraction of where we must have natural gas production go in the US, gathering has to be invested in very materially over the next— imminently, to get to the place where we can achieve 130 Bcf/day of production in the US. The last one is the interstate gas pipeline system, and this is where I come back to your answer on LNG. Lots of rules and regulations around these things. Pipelines are monopolies for the most part. Local distribution companies that deliver gas to your stove, those are monopolies or oligopolies. In the last 10 or 12 years, we've really built one interstate gas pipeline — that was Mountain Valley Pipeline connecting Appalachia to Mid-Atlantic. The various environmental permitting and regime changes have made it very difficult to build interstate gas pipelines. This administration — and this is an apolitical comment — but this administration has been trying to reduce the barriers to building interstate gas pipes. We've started to see some more progress to that end. There is an urgency to build more connectivity, to wheel gas around the country, to serve this incremental AI compute load.
· Patrick O'Shaughnessy
[00:00:00] S0: Before we keep going through this sequence here, can you just say what you think the state will be? Let's assume that there's roughly inertia in the system and nobody listens to this, nobody does anything. A lot of people will listen to this and have ideas, but what is going to happen in the world? What will the state of the world be like in 2030 if none of this starts getting addressed sooner than later? What's your best guess as to what it looks like?
· Matthew Smith, Patrick O'Shaughnessy
[00:00:00] S1: There is tremendous inertia around natural gas being the primary fuel to power AI. SemiAnalysis, for instance, leader in many respects — they've done excellent work on everything up to the power source and their behind-the-meter, BTM, load forecasts, generation and load forecasts where they match. They do everything up to the point where they don't assess where the gas would come from. And so the market has been focused on understanding the power shortage and trying to solve that. Generally, power generation, which could be solar and batteries, wind, nuclear — whether large-scale or small modular reactors, SMRs — or natural gas. Natural gas is well-supplied today, '26 and '27. And the result is that nobody is investing in gas. In fact, EQT is shutting in natural gas right now because they think it'll be more valuable later. The rig count, the things that we can see real time to figure out if the market is onto this tightness in 2030 — it's not apparent today. And so it's perpetuating this view that most Americans have, which is there's plenty of natural gas. Because for 15 years, it's all we've been told. [00:00:00] S0: It's been abundant, yeah.
· Matthew Smith
[00:00:00] S1: And so there's a complacency that's developed, and we think that complacency is going to take us right up to the point where it's too late. So we do think the die has been cast. Where gas, which is currently at $3.50, $3.60 going out to '26, '27 — in '28, the curve is flat. '29, 2030, the curve is flat because people believe that gas is abundant. That's despite all of these AI compute announcements, despite what all of the companies are doing for their investments. Gas has lulled everybody to sleep. But what happens is these structural things start to fall in place in '27, '28, and we start to draw meaningfully in the middle of '28, early '28, on the gas system like we've never drawn before. And as we look at '28, '29, 2030, we start to cut into the US working gas storage, which is about 4 TCF, total gas storage. There's kind of a range of high and low for that storage seasonally as we draw in summer and winter and then build in the shorter months, in the spring and fall. When you get to the middle of 2028, we start to break very materially below in a historical way where gas available in storage has ever been before. And by 2029, we drop below all known historical storage evidence. And by 2030, we get pretty close to where we think — ceteris paribus — gas storage looks very, very low. And at that point in time, because it's not happened before, we're forced to look at where has gas price gone during shortages? We can look at Russia-Ukraine, and gas went to $8, $9, $10 an MCF, because we sent a lot more externally, to Europe. We've seen various weather anomalies, polar vortex in '14, December of '22, and those prices have gone to $6 or $8 or $10, but those have been transitory. And what we're talking about are structural drivers of demand against a known possible production of gas, and they don't match up. You pull in a very historic way starting in '28, to the point where the deficit gets really convex and unbounded, as I said.
· Patrick O'Shaughnessy, Matthew Smith
[00:00:00] S0: Meaning that gas prices could be $20 or something like this? [00:00:00] S1: I would hesitate to even put a price target on it, but at $8 or $10, we think you potentially shut off some of the US exports — their spot cargoes. And they are leaving the border to capture uplift in Europe or elsewhere. Those spot cargoes may not be lifted and that gas is left in the system. And we've tried to account for that in our model, but the spot cargoes alone can't solve this. You would have to get into shutting off contracted cargoes leaving our border via LNG to really start to mitigate some of this. And it's hard for us to count on the choice to shut off contracted cargoes that are — where there's some Japanese utility counterparty who has counted on it for its provision of electricity. [00:00:00] S0: In crazy convex outcomes like this, can you tick through who you think the biggest winners and losers are?