Beware A Border Adjustment Tax
Earlier this month I reported on an interview I did with Tamar Essner, who is a lead energy analyst at Nasdaq Advisory Services. One of the things she told me was that she thinks refiners are hoarding oil ahead of a possible border adjustment tax. She believes that is partially the reason crude oil imports continue to be strong despite high crude oil inventory levels.
As long as the U.S. remains a net importer of crude oil, it is likely that a border adjustment tax will make crude oil imports more expensive, driving up costs for domestic refiners while at the same time giving an advantage to domestic oil producers.
But a border adjustment tax also has the potential to impact surging natural gas exports. Mexico has become the most important foreign destination for U.S. natural gas. In 2010, Mexico imported 0.9 billion cubic feet per day (Bcf/d) of natural gas from the U.S. By the end of 2016 that had grown to more than 4 Bcf/d, which is over 5% of daily U.S. natural gas production:
Certainly 5% of the U.S. gas market is a big deal, and that graphic suggests the volume is poised to go higher. According to the EIA, natural gas is Mexico’s largest fuel source for electricity generation, increasing its market share from 34% in 2005 to 54% a decade later.
Additions of natural gas-fired generating capacity will accelerate through 2020, with Mexico’s energy ministry projecting that 14.7 GW of new gas-fired capacity will come online. Most of those plants will be located in the northern and central parts of the country — with easy access to natural gas imported from the U.S.
Over the next few years natural gas demand in Mexico is projected to increase by nearly another 2 Bcf/d, as a result of the new electrical generation capacity additions. That demand will be primarily satisfied by more imports from the U.S. This is just one of the reasons I am bullish long-term on natural gas producers. But it will also necessarily involve a continued build-out of pipeline capacity from the U.S. into Mexico, some of which is already well underway.
U.S. pipeline capacity to Mexico currently stands at 7.3 Bcf/d, and is projected to nearly double in the next three years. This year four U.S. pipeline projects will be completed and should start to supply a total of 3.5 Bcf/d of natural gas to new natural gas-fired power plants in Mexico. By the end of 2018, two more pipelines should begin exporting 3.3 Bcf/d of natural gas from the Eagle Ford to Mexico’s Northeast and Central regions.
Thus the natural gas industry, as well as pipeline companies that are building some of the new pipelines — ONEOK Partners (NYSE: OKS), Energy Transfer Partners (NYSE: ETP), and Kinder Morgan (NYSE: KMI) — are probably a little nervous about the Trump Administration idea of a 20% tax on imports from Mexico. After all, Mexico would likely retaliate with an import tax of its own, and while there are some industries that might benefit from this, the U.S. natural gas industry would not.
Also, while I have argued that the Trump Administration’s policies will benefit pipeline companies, future relations with Mexico may be strained in light of the desire to impose tougher trade terms on the country. This shouldn’t impact the medium term demand for natural gas, but it could have a chilling impact on longer term projects.