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TheStreet Open House

Watch Oil Prices Drop as China Focuses on Natural Gas

Stocks in this article: FXLEUNGUSOGM

Oh wait, slow down. Wrong. Now China has the greatest amount of proven natural gas reserves in the world. China currently has about 107 trillion cubic feet available.

China has made it abundantly clear it wants its natural gas out of the ground and moved to consumers as fast as possible. A country that demonstrated the ability to grow sevenfold within 14 years is capable of extraordinary achievements.

China is under pressure to switch from oil to less expensive natural gas. Not only is natural gas cheaper than oil but, because of long-term contracts signed with Turkmenistan and the slowing of the economy, China has slowed production out of currently producing wells. The contracts for natural gas include pay or take clauses, and not enough storage capacity to store excess. To maintain a balance, currently producing wells are adjusted for output.

The current excess total supply of natural gas may leave one wondering why China is committing billions of dollars towards expanding domestic natural gas supplies. Granted, economic growth should sooner or later equalize demand with supply and eventually overcome it, but that doesn't explain all of it.

Clearly China wants to displace oil imports for domestically produced natural gas and in a big way. Probably the fastest way to move from oil to natural gas is already known. Replacing gas and diesel engines with natural gas engines is relatively easy. Natural gas pollutes less, and cost less for vehicles to operate.

One look at United States Oil ETF USO (USO) and U.S. Natural Gas ETF UNG (UNG) demonstrates the impact on energy prices in America. S&P Energy Select ETF XLE (XLE) represents energy producers and recently moved off of lows. (Read my Get Ready For $65 (or Lower) Oil article.)

Natural gas prices went into a free-fall after fracking became available in Pennsylvania and other nearby states. Now natural gas prices are well under $3 per million BTUs. The low natural gas prices, normally influenced by oil prices have decoupled.

China is paying over $10 per million importing, but it's reasonable to assume a price of under $5 is achievable once the logistics have enabled production to reach consumers.

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