Published: August 28, 2009

With large purchases of iron ore, copper and oil, China has been taking full advantage of depressed commodities prices and excess production capacity. Now, the Red Dragon is making its presence felt in the natural gas market – landing two blockbuster deals in the past two weeks.

The first was an unprecedented $41 billion liquefied natural gas (LNG) deal with Australia, which was announced last week. The deal calls for PetroChina Co. Ltd. (NYSE: PTR) – Asia’s largest oil and gas company – to buy 2.25 million tons per year of liquefied natural gas (LNG) from the Gorgon field in Western Australia over a period of 20 years.

It is the largest deal ever brokered between the two nations.

The Gorgon field has yet to be developed but is considered to be a key global resource and an economic boon for Australia.

"The Gorgon Project is globally and nationally significant with a resource base of more than 40 trillion cubic feet of gas and an estimated economic life of at least 40 years from the time of start-up,” said Chevron Australia Managing Director, Roy Krzywosinski.

"Furthermore, the Gorgon Project is Australia’s largest single resource project and is set to deliver significant economic benefits and create around 10,000 indirect and direct jobs during peak construction."

Chevron Corp. (NYSE: CVX) owns and operates 50% of the field.

Yet this is just one of the mega-deals signed between China and Australia. China was Australia’s second largest merchandise trade partner in 2008 with two-way trade of $56.3 billion (A$67.74 billion). Australian exports to China grew 37% in 2008 from the previous year to $27 billion (A$32.48 billion) and comprised chiefly of raw and lightly processed farm, mineral and energy products.

"China needs us, we need China," said Australian Trade Minister Simon Crean.

Of course, China’s demand for natural gas and other resources is growing so fast that it needs more than Australia. That’s why the Red Dragon recently signed a $5.6 billion deal with a consortium of energy companies operating off the coast of Myanmar.

The consortium, led by South Korea’s Daewoo International Corp., will supply China National United Oil Corp. (CNUOC) with 500 million cubic feet of natural gas a year from 2013 to 2043. The supply, which will come from Myanmar’s A-1 and A-3 offshore blocks, amounts to about 7% of China’s current gas consumption, Reuters reported.

The consortium – which also includes India’s Oil and Natural Gas Corp., Myanmar Oil & Gas Enterprise, India’s GAIL Ltd., and Korea Gas Corp. – will invest a total of $5.6 billion in the project and be responsible for production and offshore pipeline transportation.

Land transportation will be jointly managed with CNUOC. The two parties also plan to build oil and gas pipelines through Myanmar and into China’s southwestern Yunnan province, Reuters reported.

Few Western countries, or Western companies do business with Myanmar, which has been heavily criticized for its human rights violations. The military junta that controls the country is considered one of the most repressive and brutal regimes in the world today. Forced labor, child labor, human trafficking, and instances of sexual abuse are widespread.

However, China, which has itself been a target among human rights watchdogs, chooses to overlook these discretions, preferring instead to focus on Myanmar’s resources. And in its defense, China is rightly concerned about securing enough raw materials to support its booming economy and a population of about 1.3 billion people.

Natural gas, for instance, accounts for just 3% of China’s total energy needs, but its use is expected to grow rapidly as energy demand increases. China currently consumes about 7.3 billion cubic feet per day, but that is expected to grow at a 10% compound annual rate to 18 billion cubic feet per day by 2020, according to Bernstein Research.

And China is doing the right thing by securing long-term supplies of natural gas now, while prices are low and supplies are high. It’s taken similar action with other commodities over the past year, stocking up on large amounts oil, copper, and iron ore as prices swooned.
China Gases Up While Prices Are Low

Natural gas prices yesterday (Thursday) fell to levels not seen since 2002 after the U.S. Energy Department said the amount of gas in storage hit a record high for this time of year.

Natural gas stockpiles rose by 52 billion cubic feet to about 3.2 trillion cubic feet in the week ended Aug. 21 –21% above year ago levels. Levels are now so high that some experts believe the United States will run out of storage capacity before winter begins.

“We have never been here before in terms of what to expect when storage gets this high,” Aubrey K. McClendon, Chief Executive Officer of Chesapeake Energy Corp. (NYSE: CHK), told the New York Times. “It’s like a balloon; there comes a point where you can’t blow any more air into it.”

Natural gas prices tumbled more than 6% to $2.725 per 1,000 cubic feet of gas on the New York Mercantile Exchange (NYMEX), a price not seen since Aug. 7 2002, The Associated Press reported.

However, now that gas prices have tumbled roughly 80% from last year’s high above $13, some investors believe the market is bottoming out – or at the very least, significantly below its fair value.

Chesapeake Energy stock has risen nearly 8% in the past month, despite plunging prices and mounting inventories. Devon Energy Corp. (NYSE: DVN) is up about a 5.5%.

“The perception is that gas has finally gotten to its lowest point, so people are buying exploration and production stocks," Marshall Adkins, energy analyst at Raymond James Financial Inc. (NYSE: RJF), told Reuters.

However, Adkins does not expect a rebound to come any time soon. His firm expects natural gas prices to fall below $2.50 per thousand cubic feet in the months ahead as an inventory overhang overshadows gas’ attractive price.

Still, there’s good reason to believe gas prices will have a strong rally in early 2010. To begin with, gas companies are slashing production exploration in dramatic fashion.

Newfield Exploration Company, for instance, has announced the plans to voluntarily curtail about 2.5 billion of cubic feet equivalent of gas of its third quarter of 2009 production in response to the recent lull in prices.

U.S. producers have cut the number of rigs drilling for new gas by more than half since Sept. 2008. Oil-services company Baker Hughes Inc. (NYSE: BHI) recently reported that 688 gas rigs were active in the United States, down about 56% from one year ago.

"We think the decline curve for production will be fairly steep because of the big drop in drilling," Rich Howard, manager of the Prospector Capital Appreciation fund, told CNNMoney.

-- Jason Simpkins
Managing Editor
MoneyMorning.com