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Take a Walk on the Demand Side

By Roger S. Conrad on Nov. 1, 2015

MLPs serving customers on the demand side of the equation are best positioned to weather the storm and growth their cash flow and distributions in coming quarters. And the longer energy prices remain depressed, the more likely that demand from off-takers will grow.

For crude oil and natural gas liquids, refiners and petrochemical companies represent the primary source of demand; these operators need pipelines and other infrastructure to transport feedstock to their facilities and move their products on the other side.

Regulated gas and electric utilities represent an important source of demand growth for natural gas, making these businesses coveted customers for midstream operators.

Even in the extremely rare cases when regulated utilities file for bankruptcy, their facilities will continue to operate and consume gas. And the odds of a utility sliding into bankruptcy are extraordinarily slim after almost a decade and a half of systematically reducing operating risk and shoring up balance sheets.

This strength and resilience look especially appealing at a time when the survival of many exploration and production companies is far from a sure thing.

Even better, utilities’ appetite for natural gas continues to grow at a robust rate, thanks to low commodity prices that have accelerated the transition from heating oil and coal-to-gas switching among power producers.

And the Environmental Protection Agency’s recently published rules on carbon dioxide emissions from power plants will also boost demand for natural gas by accelerating the retirement of coal-fired power plants.

In other parts of the country, depressed natural-gas prices have forced companies that sell electricity in wholesale markets to shutter nuclear power plants. Growing adoption of solar and wind power will also increase demand for reliable, baseload generation for times when the wind doesn’t blow and the sun doesn’t shine.

Kinder Morgan (NYSE: KMI) recently reported that the volume of natural gas its pipelines transported to power plants increased 18 percent from year-ago levels—a major bright spot in an otherwise challenging third quarter.

The Energy Information Administration’s Annual Energy Outlook projects that natural gas will grow its share of the US electricity market to 39 percent by 2030, implying a huge opportunity for well-positioned midstream players.

Kinder Morgan’s pipelines transport roughly one-third of all US natural gas, and management expects to take advantage of growing demand for the thermal fuel in Mexico and among US industrial and petrochemical facilities on the Gulf Coast. The firm’s extensive network also provides feedstock to under-construction terminals on the Gulf Coast that will liquefy and export natural gas.

Although we don’t expect these demand outlets to break natural-gas prices out of their lower-for-longer trading range, these trends can help to drive volumetric growth for midstream operators.

Mexico’s declining domestic natural-gas production and plans to construct 13.6 gigawatts of gas-fired power plants over the next four years suggest that cross-border shipments of US gas will continue to expand.

By the same token, the steep decline in ethylene and polyethylene prices on the Gulf Coast suggests that some speculative capacity additions may not move forward. But there’s still ample opportunity for growth; the American Chemistry Council, for example, estimates that 243 separate projects—about $147 billion worth of investments—aim to take advantage of the country’s growing energy advantage.

Energy companies have made a final investment decision on 10.6 billion cubic feet per day of capacity to export liquefied natural gas (LNG), though the dramatic decline in Asian and European LNG prices raises questions about the volumes that will cross these docks.

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