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Fracking and Water:
Investment opportunities
from the energy-water nexus
There are many dimensions to the discussion of shale gas production. From an economic point of
view, horizontal drilling and hydraulic fracturing (fracking) technologies enable more efficient
extraction of shale gas. Combine these technologies with extensive shale gas reserves in North
America, and you have a rapid rise in gas production in the US, of which shale gas accounts for
nearly one-third. Substitution of gas for coal in the production of electricity has helped to reduce US
greenhouse gas emissions, but the ecological impacts of shale gas extraction are significant sources
of concern. Those impacts include methane emissions, consumption of water during fracking
operations, treatment of water recovered after extraction is complete, and equitable allocation of
water resources among industrial, agricultural, municipal and domestic consumers. These concerns
may eventually slow the growth in gas production, but production of shale gas is still growing
rapidly, and the impact on the availability and purity of water is becoming a major issue. In this
paper, the Pax World Global Environmental Markets Fund (PXEAX) portfolio management team
examines the investment opportunities associated with optimizing water resources and providing
related services to the shale gas industry.
Growth of shale gas production in the U.S. over the last five years is changing the U.S. energy
sector, with far-reaching impact on the wider economy. However, shale gas extraction is highly
dependent on the availability of a plentiful water supply. We believe water sector investment
opportunities exist related to the shale gas industry, including:
• Sourcing and delivering water to drill sites
• Treating water before and after use
• Consulting services regarding water use and management
• Water testing, and
• Water disposal
A force driving growth of the investment activity in the water sector likely will be increasingly
strict water regulation and water treatment standards. The oil and gas industry needs to increase
the effective delivery and treatment of water before drilling, as well as increasing the volume of
water it recycles. Stricter environmental regulation and oversight is expected to lead to greater
treatment of contaminated water, more stringent controls around its disposal, and improved
disclosure over which fracking chemicals can be and are used.
Shale gas – the story so far
The rapid advances in shale gas supply have been driven by the success of horizontal drilling
and hydraulic fracturing technology (fracking) in unlocking natural gas and liquid hydrocarbons
trapped in shale deposits. U.S. shale gas production tripled between 2007 and 20101 (See
Figure 1 on page 2), and U.S. Energy Department data shows that shale gas helped the nation
meet 30% of its energy needs in 2011.2 It is possible that the U.S. could achieve energy
KEY TAKEAWAYS
• Shale gas production growth
in the last five years is driving
significant changes in the U.S.
energy sector and influencing
the wider economy by lowering
energy costs in the U.S. and
reducing the nation’s dependency
on foreign energy sources.
• There are significant
environmental implications
and potential investment
opportunities associated with
this trend.
• Although shale gas extraction
requires access to a plentiful
water supply, to date there
has been little focus on water
availability.
• Investment opportunities of
significant potential exist in
water infrastructure, water
treatment, and environmental
engineering and consultancy
services serving shale gas
producers.
• Companies helping the industry
to operate more efficiently,
reduce pollution, and meet
increasingly strict environmental
standards may be positioned to
experience growth in correlation
with growth of the shale gas
industry.
Impax Asset Management Ltd, author of
this white paper and sub-adviser to the
Pax World Global Environmental Markets
Fund, is a leading global equity specialist,
investing in companies active in the
rapidly growing and inefficiently priced
resource optimization markets. Impax has
been researching and managing
portfolios of publicly traded stocks and
private equity in this space for 15 years,
with 28 investment professionals in
offices in London, New York, Washington
and Hong Kong.
INVESTING IN ENVIRONMENTAL MARKETS – INVESTING OPPORTUNITIES FROM THE ENERGY-WATER NEXUS
FIGURE 1: US dry natural gas production by source, 1990-2040 (trillion cubic feet)
Source: US Energy Information Administration, Annual Energy Outlook 2013 Early Release Overview, p2
independence within 10 years, and the International Energy Association estimates that shale gas
will constitute 32% of global gas production by 2035.3
Increasing supply has led to a significant fall in U.S. natural gas prices. The Henry Hub spot gas
price (the centralized point for setting natural gas futures4 and spot prices5 in the U. S.) was as
high as $14/mbtu (million British Thermal Units) before the 2008 economic crisis, falling to
around $4/mbtu in 2009, before a further decline to trade between $1.82 to $3.77/mbtu in
2012 3. Lower natural gas prices have led to a dramatic drop in coal use in the U.S., as well as
considerably lower electricity prices in many U.S. markets.
Water sector – benefiting today and more so with greater regulation
The shale gas extraction process requires between two and five million gallons of water
containing chemicals to be injected in each well. This water has to be transported to the site,
processed, and injected into the well. It is estimated that 70 to 140 billion gallons of water per
year are used in the 50,000 wells in the U.S.6
After injection, 50% to 70% of the chemically-treated water, which by then includes other
contaminants picked up during the drilling process, is forced back out of the well and must be
treated and/or recycled by the drillers.7 This contaminated water is generally treated and can be
reused, although it will still contain residual chemicals. Today it is mainly disposed of in deep
saline aquifers. There are widespread concerns about how the industry deals with this water,
which can have up to 10 times the salinity of seawater and other chemical contaminants. Given
the risk to the New York City water supply, this is a major reason why fracking has been on hold
in New York State, and a new lengthy public consultation has been opened.
Investment opportunities for companies across resource optimization markets, particularly in the
water sector, could increase with proposed changes in environmental monitoring or controls that
are expected to have relatively limited cost impacts on gas production itself. To date there has
been little federal regulation of the industry. It was exempted from the U.S. Safe Drinking Water
Act, and it is not expected that regulators will put excessive limitations on shale gas producers
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INVESTING IN ENVIRONMENTAL MARKETS – INVESTING OPPORTUNITIES FROM THE ENERGY-WATER NEXUS
given the transformational opportunity it provides for U.S. energy security. It is expected that the
Environmental Protection Agency (EPA) will release its delayed and much anticipated shale gas
study in early 2014, which will have a particular focus on the protection of surface waters from
contamination.
State-level regulation is intensifying, and the industry is liable to scrutiny under the “Clean Water
Act” among other legislative initiatives. Regulations governing fracking on federal lands are
being considered in 2013. While this will only affect around 15% of the current wells, these rules
are expected to stand as a basis for best practices for developing state-level regulations.8
In addition, the rapid development of shale energy also needs to be put in the context of water
consumption and availability, especially in geographical regions characterized by increasingly
scarce water resources. The volume of water that is recovered once the well has been fractured is
highly variable, ranging from zero in some places to as much as 70% in others, depending on
the geology.9 The rest of the water used for fracking is gone for good from the hydrological
cycle.10 According to the Ceres report “Hydraulic Fracturing & Water Stress: Growing
Competitive Pressure for Water,” 47% of wells are found in regions with high or extremely high
water risk indicating growing competitive pressures among industrial, agricultural, municipal and
domestic consumers for finite water supplies.11 Shale development needs water to grow, but, in
order to do so, the industry’s current and future water requirements need to be better understood,
measured and managed.
Potential investment opportunities
Water supply, treatment and infrastructure
A number of companies in the water sector currently have exposure to the fracking industry
through water supply, sale of water chemicals, fracking pumps or associated wellhead
infrastructure. To date there has been relatively little demand for traditional water treatment
products (filtration, membranes, etc.). However, this is expected to increase significantly, with
higher levels of public regulation and tighter self-monitoring by gas producers, eager to be
accepted into new communities or development areas. Stricter regulation may lead to the
industry recycling increasing volumes of water and, in some areas, the cost of recycling the
contaminated water may even be lower than the cost of supplying fresh water and subsequently
disposing of the contaminated used water.
Environmental consultatation
Today, a number of engineering and consulting companies are active in setting up and operating
well sites, particularly water provision to fracking sites, as well as building pipelines for the
produced gas and liquids. With stricter regulation, producers will require significant consulting
advice in order to achieve compliance standards in the use of water, environmental assessments,
site remediation, tracking gas lost to the atmosphere, and monitoring well-case linings.
Water testing
Shale gas testing and analysis is still a relatively small market. However, increasingly stringent
testing will be required for the output products from the fracking wells, and throughout various
stages of the gas refining process, to ensure compliance with regulations such as sulphur content.
Testing is usually contracted out to specialist laboratories and, as stricter regulation comes into
force, we believe the contaminant testing companies and the manufacturers of the testing
equipment could benefit.
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INVESTING IN ENVIRONMENTAL MARKETS – INVESTING OPPORTUNITIES FROM THE ENERGY-WATER NEXUS
Waste water management
Hazardous waste companies see some activity today through treatment and disposal of the
highly contaminated by-products from the shale production process. This demand is likely to
increase as regulation becomes stricter on the disposal of these fracking fluids. For example, the
Canadian oil sands, which require a high volume of processed water, are already a large
market for such treatment activities.
Potential future beneficiaries
In the longer term there are many companies which may benefit from the fracking industry. These
include large-scale users of natural gas, as they gain commercial advantage from greater
availability and lower cost of the fuel, and the companies that support their gas-related activities.
In addition, groups involved in the Liquefied Natural Gas (LNG) storage and export business
may benefit, including those active in efficient gas shipping.
In addition, the increased supply of shale gas is closing the U.S.’s six million ton annual deficit in
nitrogen fertilizer.12 The availability of competitively priced natural gas is attracting new capacity
for nitrogen fertilizer manufacturing with several projects either announced or in planning stages.
The potential closure of the supply deficit has profound implications for agriculture, in particular
the global trade flows in fertilizer. Food for thought!
Conclusion
Expanding natural gas production is dramatically changing the U.S. energy market and will
have major implications for the world’s future energy supply and its security. This transition to
heavier reliance on natural gas has important environmental implications. Impax believes that
some of the best investment opportunities arising from the shale gas revolution are in companies
that help the industry operate more efficiently, reduce pollution and meet increasingly strict
environmental controls.
Investors can access growth in companies active in these rapidly developing ancillary markets.
In our view these companies are often undervalued, and their growth potential as a direct result
of the shale gas industry has not yet been fully recognized. There is plenty of scope for
diversification, particularly within a global water or resource optimization-based portfolio.
Sources:
1
Bank of America Merrill Lynch, Cracking down on fracking: shale gas & HSE risks, September 28, 2011, page 6.
2
US Energy Information Administration, Natural Gas Annual, January 7, 2013 http://www.eia.gov/naturalgas/annual/.
3
International Energy Agency, World Energy Outlook Special Report on Unconventional Gas Golden Rules for a Golden Age of
Gas, May 29, 2012, Executive Summary, page 11.
4
Futures are financial contracts obligating the buyer to purchase an asset (or the seller to sell an asset), such as a physical
commodity or a financial instrument, at a predetermined future date and price.
5
Spot price is the current price at which a particular security can be bought or sold at a specified time and place. A
security's spot price is regarded as the explicit value of the security at any given time in the marketplace. In contrast, a
securities futures price is the expected value of the security, in relation to its current spot price and time frame in question.
6
Bank of America Merrill Lynch Cracking down on fracking: shale gas & HSE risks, September 28, 2011, page 27.
7
Bank of America Merrill Lynch Cracking down on fracking: shale gas & HSE risks September 28, 2011, page 30.
8
Bank of America Merrill Lynch research note, December 13, 2012.
9
The Secretary of Energy Advisory Board Shale Gas Production Subcommittee 90-Day Report, August, 11, 2011, and Bank of
America Merrill Lynch Cracking down on fracking: shale gas & HSE risks September 28, 2011, page 30.
10
Western Organization of Resource Councils, Gone for Good: Fracking and Water Loss in the West, 2013.
11
Ceres, Hydraulic Fracturing & Water Stress: Growing Competitive Pressure for Water, by Monika Freyman and Ryan Salmon, May 2013.
12
UBS Investment Research, Engineering & Construction, What’s the outlook for NA ammonia capacity?, June 4, 2012,
page 8. Deficit based on 80% of ammonia ending up in nitrogen fertilizer.
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INVESTING IN ENVIRONMENTAL MARKETS – INVESTING OPPORTUNITIES FROM THE ENERGY-WATER NEXUS
Disclaimer:
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or training. The information and any opinions contained in this document have been compiled in good faith, but no
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INVESTING IN ENVIRONMENTAL MARKETS – INVESTING OPPORTUNITIES FROM THE ENERGY-WATER NEXUS
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THE PAX WORLD GLOBAL ENVIRONMENTAL MARKETS FUND
Formerly the Pax World Global Green Fund
The Global Environmental Markets Fund’s investment objective is to seek long term growth of capital by investing
in innovative companies around the world whose businesses and technologies focus on environmental markets,
including energy (renewable energy and energy efficiency), water (water infrastructure and technologies, pollution
control) and waste (waste management and technologies, environmental support services).
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IMPAX ASSET MANAGEMENT LTD.
Impax Asset Management Ltd, author of this white paper and sub-advisor to the Pax World Global Environmental
Markets Fund, is a leading global equity specialist, investing in companies active in the rapidly growing and
inefficiently priced resource optimization markets. Impax has been researching and managing portfolios of
publically traded stocks and private equity in this space for 15 years, with 28 investment professionals in offices in
London, New York, Washington and Hong Kong.
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