Sprott Analyst Has Zero Doubt on Higher Natural Gas Prices

Introduction: We talked with Sprott Asset Management Research Analyst Eric Nuttall about the natural gas situation in Canada and the fate of many CBM gas producers and developers. Since our last conversation spot natural gas prices have dropped by 15 percent. Natural gas storage levels are about 2.5 trillion cubic feet, some 423 billion cubic feet higher than a year ago.

Eric Nuttall told us, “Nearly all small-cap natural gas producers have taken it in the teeth this year. The price decreases in their stocks have been absolutely brutal. There are now companies whose stocks are down 40 percent year-to-date, and yet are still strongly growing production on an adjusted share basis.” How will the CBM and natural gas sector pan out through the end of this year? He believes the gas storage surplus will correct itself.

StockInterview: How are the lower natural gas prices impacting Coalbed Methane producers?

Eric Nuttall: For many CBM or shallow gas producers, this means their current drilling program is likely uneconomic, suggesting deferrals in drilling programs until natural gas prices strengthen. It is this very supply response that we need to balance storage levels, so it should not come as a complete surprise.

StockInterview: What, then, should investors do while storage levels are rebalancing?

Eric Nuttall: I would view this period as an opportunity for medium to long-term minded individuals to start building positions in not just unconventional gas producers, but conventional ones as well. The long-term fundamentals are still extremely bullish for natural gas. Many quality names are down 20 to 40 percent year-to-date.

StockInterview: How do you view the long-term fundamentals for gas?

Eric Nuttall: North American natural gas production has been in decline for several years. Most incremental production is coming from smaller, more expensive-to-drill, thinner economic, higher decline pools and reservoirs. Over the past five years first-year decline rates on natural gas wells have doubled to 50 percent. The base decline rate has also doubled to approximately 25 to 30 percent. Pool size has also decreased materially over that time frame. The Western Canadian Sedimentary Basin and much of the US producing basins are mature. Consequently, higher and higher natural gas prices are required to create incentive for producers to drill increasingly marginal wells.

StockInterview: And you expect a continuation of declining natural gas production? And that is that your premise for higher natural gas pricing?

Eric Nuttall: Conventional gas production has been in decline for many years, and the growth areas have largely been unconventional, such as the Piceance Basin (tight gas), the Barnett Shale (shale gas), and the Jonah Field (tight, deep gas). Also, many of the growth assets, such as the Barnett Shale, are already a few years into development, and because the wells have such a steep decline rate in the first few years, it is only adding to the depleting base that we have to make up. It is unlikely that over the next three years, the increase in unconventional gas can offset the decline in conventional, because the depleting base is so much larger. The major natural gas basins in North America are mature. Decline rates are increasing. Pool size is decreasing. Rig count is increasing yet production is at best flat. Until LNG imports increase in a material way, which is not expected for at least four or five more years, I think the case for healthy natural gas prices is intact.

StockInterview: Earlier, you noted drilling was more expensive.

Eric Nuttall: Over the past year, onshore drillings costs are up over 15 percent while operating costs are up over 10 percent. A recent Wall Street Journal article commented on how rig rates for the Gulf of Mexico, on very deep drilling platforms, are as high as $520,000 per day, up from $185,000 a few years ago. And the drilling platforms are still leaving the Gulf of Mexico! Although many are leaving the Gulf of Mexico to go to more prospective areas such as the West African Coast, the current rig situation is still somewhat tight in the Gulf. We have only begun to see signs of moderating rig rate pricing.

StockInterview: How would bad weather, such as a hurricane, impact natural gas prices?

Eric Nuttall: Short term, you would see both natural gas and related stocks surge. If a hurricane strikes the producing area of the Gulf, and we almost need one to – to correct the surplus supply situation. Initially, you’ll have an emotional upward response. Only after assessing the status of production platforms and sub-sea infrastructure would we know the longer-term impact.

StockInterview: Should investors be watching the Weather Channel and ready to phone their stockbrokers?

Eric Nuttall: Timing on any natural gas investment right now is tricky. You need to have a medium- to longer-term focus. We probably have another two months of volatility. There are two camps right now on natural gas. One camp is saying that due to bloated storage levels companies are going to increasingly lay down their drilling rigs, cut production guidance, and stress their balance sheets. Then in the fall, when companies set their 2007 budgets, they will be using low gas prices and presenting moderating production growth profiles to their investors.

StockInterview: What does the other camp say?

Eric Nuttall: Another camp says that the current natural gas strip already discounts the present and forecasted storage levels. Also, stocks are cheap on a price-to-cash flow and price-to-net asset value ratios, and now is the time to load up on the stocks. I lean towards this viewpoint. But I am also admitting that until the fall, barring a severe hurricane, it is likely that the stocks are going to trade sideways, as opposed to in any clear direction.

StockInterview: One equities strategist, whom we interviewed, suggested some time in August we might start to see the natural gas stocks moving higher.

Eric Nuttall: There is the potential that we might endure another month or two of flat trading in small cap natural gas stocks. By the end of August, it is likely that we will have had both a supply and demand response – worries of massive laying down of rigs, forced well shut-in’s, and overleveraged balance sheets should have subsided. Investors will begin to focus on the natural gas strip rather than spot prices, which currently are around $9.00 for the upcoming winter and $8.00 for next summer.

StockInterview: And until then?

Eric Nuttall: Until that time comes, I think it likely, as a group, the large caps will outperform. They are more weighted towards oil, and have recently been catching a bid on the heel of a huge $22 billion all-cash takeover by Anadarko of Western Gas and Kerr-McGee. Importantly for unconventional gas investors, Anadarko paid around $2.00 for 3P (Possible) Mcf, which is very healthy (Western Gas was predominantly tight gas in Wyoming and coalbed methane in the Powder River Basin). It speaks to Anadarko’s view of strong long-term natural gas fundamentals. These all-cash transactions likely set the bottom in the large caps.

StockInterview: What do you see for the near-term?

Eric Nuttall: Many people have been hoping that warm weather or hurricanes would assist in working off the excess supply, but Mother Nature hasn’t been terribly helpful so far this summer. It appears that we will exit the natural gas injection season at least 10% over last year. Barring any incredible heat waves or significant hurricanes, natural gas prices are likely to remain sub-$6.50 until the fall. Unless we have a serious hot spell or a significant hurricane, it is likely that natural gas stocks will be very volatile without clear direction over the summer into the fall. I would think not until the fall, probably September – October, when people begin to focus not on natural gas spot prices, but on the strip pricing for the winter, which is still over C$10. Until that time comes, I wouldn’t see any clear direction in the stocks. The market is now providing opportunities to buy companies with high quality management for below-average multiples, commonly measured on a price-to-cash flow metric.

StockInterview: Have you given up on the CBM sector or is it coming back?

Eric Nuttall: There is zero doubt in my mind that natural gas is an excellent long-term investment. We’ve peaked in our ability to increase production meaningfully, just as we have with light oil. I think for there to be an increase in long-term natural gas supply, you have to provide incentive to producers to go drill wells that increasingly have lower economic rates of return. And to do that, you need higher natural gas prices. One of the few remaining growth prospects in Canada for natural gas production is coalbed methane. At current gas prices, the economics are very challenging. So to get a supply response from coalbed methane producers, you again need higher gas prices. The current surplus in gas storage will correct itself, and investors should position themselves ahead of natural gas stocks reacting to this inevitability.

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Market Research Jobs – An Overview

The main focus when working in market research is to help companies understand what types of products people want, determine who will buy them and at what price. Key to the roles is gathering statistical data on competitors and examining prices, sales, and methods of marketing and distribution, and then analyse the data on past sales to predict future sales. For many roles you need to be quite savvy with Microsoft Excel and PowerPoint, whereby the first is used for analysing the data and the second for producing reports and presentations.

In some cases the job involves devising methods and procedures for obtaining the data that is needed by designing surveys to assess consumer preferences. While a majority of surveys are conducted through the Internet and telephone, other methods may include focus group discussions, mail responses, or setting up booths in public places, such as shopping malls, for example.

Often names can be quite confusing with the market research world. In one company a Research Analyst can be bottom of the career path whilst in others this is seen as a quite advanced role. The below list is therefore a generalisation of most common roles within market research (excluding data processing and field roles). Based on firsthand experience, a rule of thumb can be is that progressing from one role to the next takes between 1.5 to 3 years, depending on the company, training & education and drive of a person.

Junior Research Executive / Trainee / Analyst

Most common for graduates & student placements. The role is mainly focussed on reporting, data control and administration. Most likely in this role you will have support from a manager and depending on the team a director and / or more experienced executives. If you work for an agency it is most likely that you will start visiting clients after several months in the job, under guidance of the manager or director. Some areas of tasks are Design/Methodology, Data Management, Data Analysis and Report Writing.

(Senior) Research Executive

Many day to day tasks are similar to the junior or trainee role. The difference is that you will have ownership of reporting / project and become more self reliant. You will be giving the responsibility of projects from start to finish including taking briefs, questionnaire design, reporting and delivering of insight.

When working for an agency it is possible that you will be starting giving parts of presentations or get the responsibility of training / workshops for the client. Other areas that will develop during this time is supporting the manager in sales targets and writing proposals. In some cases you might get the responsibility for generating revenue or extending client contracts.

As you now have experience working in market research, you will be expected to “think outside the box” and use your established experience to break through the boundaries.

Research / Insight Manager

Although this is quite similar to account manager role, the focus of an insight / research manager is on the actual analysis and management of data / projects.

Vital job requirements include direct experience in the area of work (quantitative / qualitative / continuous data etc), an ability to generate insights and the management of multiple, multi-disciplinary projects at once with a strong sense of time management.

Associate Director / Consultant

This role involves providing direction and assist with the development of the team, designing and managing projects with a high level of autonomy and responsibility.

Key aspects of the role are taking projects from kick off to completion, managing a small team to coach them to help them achieve their potential, account management of several clients, and contributing to business development.

General Hints On Advertising

In advertising, the psychological effects are of greater importance than the physiological ones – i.e. as the “psychological” has the power to affect the mind generally, the latter, with the impact on the visual, is being merely registered by the eyes and absorbed as “pictorial effects”. These should first and foremost pertain exclusively to the item advertised and not, as sometimes is the case, have nothing or very little to do with, and can therefore be ” a dead loss”, in the effect it is supposed to have. Not to mention, that too many “diverse” pictures detract from the very name of the products advertised. The importance of the psychological effect should be stressed, by not only presenting the whole advertisement in “good taste”, but by making it attractive or appealing, which is something everyone responds to.

It should contain nothing that “distracts” through visual images that put the actual item advertised (and its name) into the background, resulting in a “weaker” impact on the viewer. It should also contain something about its value, its general assets and, if it is of well known long standing – its emphasis on tradition included. “Obviously overdone” emphasis on its effective result (as applicable to some – and mostly aimed at usage for women) – often can have the opposite effect, as every woman is not only reacting to the promise of beauty, but also the quality and health of the product.

It is also worth noting that “beauty” in an advertisement is more appealing to both sexes then the stressing of mechanical performance etc. The simulated speed, in harmony with the right background of a sleek automobile, for instance, has more power of “attraction” than the stress on its mechanical performance or assembly and composition, which is only for some mechanically minded men.

Products for every day needs are the hardest to successfully advertise – so it seems! How about an attractive or appealing sales person holding the product and simply but skilfully stating its merits and advantages, the focus being on the item in the hand and its name, rather then a story telling picture behind a distracting background, both of which detract from the total effects of the item, which can lead to: “by the time advertisement ends and all its contents have been taken notice off”, the name of the product has gone by almost, unnoticed. With spoken words, it should also be taken into consideration, which class of people – if not all – the product for sale is aimed at. The more expensive and luxurious the product, the “higher” or more “educated” should be the accompanying comments, and simpler common place expression for ordinary, everyday items aimed for general consumption to the general public.

In all advertising, as all its advertised items – one motto stands with best results for effect and continuity: HONESTY IS THE BEST POLICY!