Musings from the Oil Patch
Comment of the Day

June 20 2012

Commentary by Eoin Treacy

Musings from the Oil Patch

Thanks to a subscriber for this edition of the ever interesting report from Allen Brooks at PPHB. Here is a section quoting Tom Fanning of Southern Corp:
Mr. Fanning is skeptical about the nation's growing dependence on natural gas given the fuel's historical price volatility and its potential consumption growth. As he put it, “Nationwide, I think we're going to be consuming over 50% more gas going forward than we currently do, or at least there's a good potential for that.” He acknowledges that increased production due to more wells and the use of hydraulic fracturing technology has contributed to increased supply and low gas prices. But he offers, “Gas has traditionally been way more volatile certainly than coal and nuclear. So you're buying a more volatile product. You're creating a higher-Beta energy policy.” (Beta is the measure of the volatility of the price of an asset in relation to the overall market.) What Mr. Fanning is concerned about is that as coal, a low-Beta fuel, is eliminated from the market, power customers will be forced to rely on less productive and more expensive energy sources. While that would appear to target renewables, Mr. Fanning says he is excited about renewables, but warns they are really a niche fuel. He is also concerned about the political risk for natural gas supply from concerns about the wide-scale use of hydraulic fracturing.

Looking to the future, Mr. Fanning sees natural gas prices normalizing globally, meaning America's current low prices will disappear. As a result, he sees the dividend our economy is getting now from low energy prices is something that will not last. As a result, his strategy is best summed up in the following statement. “Believe me. I think gas will be the dominant resource going forward. But I am not willing to subject my customers to the risk of betting it all on gas.” As a result, Mr. Fanning focuses much more on the risks in managing his business, and in particular the long-term risks. He believes the vertically integrated, regulated utility model “should be the dominant solution” in the power industry. What he worries about are those companies that are set up to focus on maximizing the next quarter's returns at the expense of long-term profitability. In his view, “Risk is as important as return. And I think so often given the herd mentality we see in the markets, people forget that.” Those are excellent thoughts to keep in mind as we contemplate the future of the natural gas industry.

Eoin Treacy's view While it has been our view for a number of years that natural gas is a game changer for the energy sector, the sober view expressed by Tom Fanning above is laudable. He highlights that low volatility in energy pricing is in the best interests of consumers which no one would argue with.

Southern Corp (4.19%) has been among the better performing utilities over the last few years. The share had become somewhat overextended relative to the 200-day MA by early this week and appears to have entered a process of mean reversion. A sustained move below $45 would be required to begin to question medium-term uptrend consistency. (Also see Comment of the Day on May 11 th).

Back to top