* 'Fracking' has lowered price but failed to spark transport demand
* Experts say regulatory and logistical issues largest hurdle
* Other obstacles keep railroads, maritime shippers hooked to diesel
By James B. Kelleher and Nivedita Bhattacharjee
CHICAGO, Dec 13 (Reuters) - Don't believe the gassy hype.
The United States may be floating on an ocean of cheap, domestically sourced natural gas. But its transportation sector is more reliant on diesel fuel - and is using less natural gas - than it was in the 1960s and 1970s. And industry executives say regulatory and logistical challenges and uncertainties make it unlikely the picture will change anytime soon.
That may come as a surprise to many investors. Over the past decade, energy companies using hydraulic fracturing and horizontal drilling have unlocked huge gas deposits trapped in rock thousands of feet underneath the United States.
That's sent the domestic price of natural gas plunging and fanned big talk from heavy hitters like General Electric's Lorenzo Simonelli about its future as a transport fuel.
"We are in an era of natural gas," Simonelli, the current head of GE Oil & Gas and the immediate past head of GE Transportation, told a conference in Chicago earlier this year.
Lorenzo even raised the possibility that the passenger jets that use GE engines might one day run on natural gas. "We are looking at aviation," he said. "That's one of the things in the future that may come about."
So far, however, commercial adoption has fallen short of those high-flying hopes. Today, less than 3 percent of the fuel U.S. transport companies burn annually is natural gas, according to the latest figures from the U.S. Energy Information Administration (EIA) - nearly every drop of it by truckers.
In fact, natural gas use by the transport sector, expressed as a percentage of the industry's total fossil fuel consumption, hasn't budged since the 1990s, according to the EIA, and is actually down from the peak of 4.6 percent set in 1970.
In the rail industry, where a handful of pilot projects have garnered media attention, there is not a single natural gas-powered train hauling goods or passengers today.
Michael Ward, the chief executive of CSX, which provides rail services in 23 states and the District of Columbia and is currently working with GE to test LNG-powered locomotives, predicts "it will be multiple years before we actually see a train running" in revenue service.
Ditto for the maritime shipping industry, where the first U.S.-flagged LNG-powered vessel, a supply ship that will serve oil and gas rigs off the Gulf Coast, won't be christened until sometime next year.
For once, technology is not the problem. Companies like Wärtsilä, MAN Group, GE, Caterpillar and Cummins have been manufacturing high horsepower LNG engines for decades. Several of them even make conversion kits that allow diesel engines to burn LNG.
On paper, the arguments for transitioning to LNG are compelling. It costs just one-fifth as much as diesel per unit of energy and contains a lot fewer hydrocarbons and other emissions that have been linked to climate change.
That's a double attraction for transport companies, which are not high-margin businesses and need to comply with increasingly stringent clean-air rules from the Environmental Protection Agency and the UN's International Maritime Organization.
"Fuel cost can contribute to up to 80 percent of the operational expense of the shipping companies and every penny they save on fuel drops to the bottom line," says Leif Gross, the new product introduction manager in Caterpillar's marine power systems unit.
Greg Young, the head of the marine business development at Cummins, says it typically takes five to seven years for vessel owners to recover the cost of the investment in LNG and to begin to enjoy the savings - not a long time in an industry where ships routinely remain in service for 40 years or more.
Gross and Young know all this because transport customers in Europe and China are way ahead in adopting LNG in marine applications - even though the fuel is more expensive there.
So what's the problem in the United States? Experts say a host of logistical and operational complications have frustrated adoption of LNG, not the least of which is that the country still has no fueling infrastructure in place.
The handful of marine fueling stations under construction, like the two facilities being built by Royal Dutch Shell to serve the Great Lakes and Gulf Coast regions, are being approved by regulators on a case-by-case basis. The reason: there are no rules on the books covering the safe storage and operation of vessels around LNG when used as a fuel.
"That's another piece of the puzzle," says Eddie Green, the general manager for LNG business development at Shell.
John Graykowski, a former official with the U.S. Maritime Administration who now works as a marine consultant, says one of the big issues frustrating the development of that infrastructure is that the marine and energy industries do business in fundamentally different ways.
"For 150 years, ships have pulled into ports and either bunkered with coal or oil," Graykowski says. "They haven't had to sign forward contracts or hedge. The gas industry, for an equal amount of time, has operated with project financing. They'll build a $150 million plant after you sign a 10-year take-or-pay contract."
Another problem? The marine industry buys fuel in terms of metric tons or barrels of oil, while the gas industry sells on the basis of British thermal units or MMBtu.
Until the two industries can bridge that fundamental gap, Graykowski predicts the LNG conversion trend will remain "more like a riplet than a tidal wave."
'STILL IN TEST MODE'
Getting railroads to bite has proved difficult for another reason. Because the industry is highly integrated in North America, with competitors running trains on each other's tracks, it's difficult - if not impossible - for an individual company to do much on its own.
"In order to get the (momentum) that's necessary, many of the other railroads will have to embrace this," says Darrell Iler, a senior engineer at Canadian National Railway.
But given the high capital costs involved in converting to natural gas, and the continued questions about the efficiency and safety, getting cross-industry-wide buy-in has been tough.
"There's a number of things we have to consider," Union Pacific CEO Jack Koraleski tells Reuters.
"Converting a diesel engine to natural gas is a highly complex process and ... the efficiency and effectiveness of those locomotives are yet to be proven over the long haul.
"The second thing really boils down to that you have to be able to move them safely, they have to be efficient, reliable and - long term - they have to be able to stand up to heavy haul operations. All of those things are yet to be done. We're still in a test mode." (Editing by Nick Zieminski)