Don't Bet the Farm on Natural Gas

Natural gas is in the air these days, and investors can't seem to get enough of the smell. Still, a foul wind could yet blow away some of this exuberance. Let's look at where the natural-gas story may give pause and see how you can hedge your bets.

This gas is all about natural
The notion that natural gas' use as a transportation fuel would yield significant environmental benefits in the form of reduced greenhouse-gas emissions drives the fuel's charmed story. This is a core pitch element of Clean Energy Fuel (NAS: CLNE) , a darling of the investor community here at The Motley Fool. The company is building "America's Natural Gas Highway," meant to provide the necessary infrastructure for widespread adoption of natural gas across vehicle classes.

All that is well and good. No objections here. But there's a tiny detail that could make this story smell a little less rosy: methane leakage. It's hugely important, and no one is talking about it.

And you thought CO2 was bad?
Natural gas blows away petroleum- and coal-based fuels when it comes to reduced carbon dioxide emissions. Things get more interesting with methane, the primary molecule in natural gas. Methane is a far more harmful greenhouse gas than CO2, and some studies show that if that methane leaks before it's burned, it may be so damaging as to cancel out any benefit from natural gas' CO2 reduction.

Leaks happen all along the natural-gas production cycle, from drilling to piping to fueling. No one seems to know right now what percentage of the total volume of natural gas actually leaks in any given system. Yet that magic number determines whether or not natural gas is, in fact, more environmentally friendly than alternative fuels. The EPA estimates the average leakage rate at 2.4%. If that's true, it's good news, because the rate only needs to be better than 3.2% to beat coal.

But natural gas wouldn't really be replacing coal. We need to look at transportation fuels, specifically gas and diesel. A sobering study published in the April 9 Proceedings of the National Academy of Sciences finds that methane leakage would need to be below 1.6% to make natural gas more climate-friendly than gas in passenger vehicles. The comparison to diesel-powered trucks is even rougher: Leakage would have to be two-thirds lower than the EPA estimate for there to be a climate benefit. Yikes.

Don't get me wrong; natural gas still has plenty going for it, especially its abundance, affordability, and domestic availability. But its environmental cred is important, and losing it would be no small matter. You'd think something like that would turn up in, oh, maybe the risk section of a 10-K. Clean Energy Fuel makes but a cursory mention of the matter, and only in the most general terms. How 'bout that.

Back to basics?
So if natural gas isn't all it's fracked up to be, where else should we look? I present to you the humble diesel fuel, making a comeback in vehicles near you.

Diesel engines have always been more efficient than their gas-powered cousins, but they suffered a hefty image problem. Technological developments over the past decade have changed things, and diesel is enjoying a revival. Government and industry leaders have described the advent of ultra-low-sulfur diesel fuel in late 2006 as a "game-changer." The EPA is so convinced that it just announced more than $9 billion in financial support to clean-diesel projects. Particularly in the area of long-haul trucking, clean diesel looks to be an altogether better bet than natural gas.

General Motors (NYS: GM) is casting its lot with diesel. The company recently announced that it would develop a diesel-powered version of its Chevrolet Cruze, up for its debut in 2013. The company also intends to offer a diesel-powered Cadillac ATS.

Another stock to watch in this space is BorgWarner (NYS: BWA) , a manufacturer of systems designed to improve fuel economy, reduce emissions, and enhance vehicle performance. The company regularly wins serious awards for its innovations in making diesel engines even more efficient and eco-friendly. See why my colleague Brendan Byrnes is so excited about BorgWarner and General Motors.

Corning's (NYS: GLW) diesel particulate filters and substrates help control emissions. Sales of these products have been phenomenal, and Corning has been able to increase prices in response to high demand. See why my colleague Keki Fatakia is hopeful about this stock's future.

Amid these big, solid players, consider a feisty little guy who's more risky but has enormous upside potential. Solazyme (NAS: SZYM) makes oil by transforming low-cost plant sugars into high-value renewable oils, including diesel. The company's diesel can be used in existing engines without modification, making all of this an even cleaner proposition. The company's stock price has been extremely volatile, and it's currently trading well below the S&P 500. I think it's cheap and worth a closer look.

Put your eggs in several baskets
I'm not saying that natural gas is a bad play, but I do think it's unwise to imagine a panacea there. As with so many things in life, our fuel future is likely to be a mixed bag, so your portfolio should be, too. Let diesel fuel a boost in your returns.

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At the time thisarticle was published Fool contributor Sara E. Wright owns no shares in the companies above. The Motley Fool owns shares of Solazyme and Corning. Motley Fool newsletter services have recommended buying shares of Corning, BorgWarner, General Motors, and Clean Energy Fuels. The Motley Fool has a disclosure policy.We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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