Turkey's Zorlu in talks on Israeli gas, but politics in the way
* Zorlu, Turcas interested in possible pipeline project
* Pipeline could carry 8-10 bcm Israeli gas
* Sour relations between Turkey and Israel delay progress
ISTANBUL/ANKARA, Oct 31 (Reuters) - Turkey's Zorlu Energy is in talks with Israeli firms over the potential for a pipeline to carry Israeli gas to Turkey, industry sources say, but the political rift between the two former allies is holding up progress.
Israel is set to become a gas exporter by the end of the decade after the discovery of two major offshore fields off its Mediterranean coast - Leviathan and Tamar.
Turkey, dependent on imports for almost all of its energy, is looking to diversify away from expensive Russian gas and could become a customer as well as providing a transit route to other markets, particularly Europe.
"Turkey is a very suitable route for Israeli gas. I can even say it is the most suitable," said Omer Yungul, chief executive of Zorlu Holding, the owner of Zorlu Enerji.
But relations between the two countries have been scarred since May 2010 when Israeli commandos killed nine Turkish activists while storming the Mavi Marmara, a ship in a convoy seeking to break an Israeli naval blockade of Gaza.
Industry and diplomatic sources said the Zorlu Group, which already holds an indirect stake in an Israeli power plant, is in talks with private Israeli companies over a possible pipeline deal.
Yungul did not confirm the talks, but said Zorlu Energy's existing investments in Israel have given it a head start.
Zorlu Energy holds a 25 percent stake in Dorad Energy, which is building a 875 megawatt (MW) gas-fired power plant in Ashkelon on the Israeli coast. Yungul said the first unit of the plant would come on line by February 2014.
Other Turkish companies including Turcas Petrol are also interested in a pipeline project, officials on both sides have said.
Such a project could be worth $3.5 billion, according to Amit Mor, an Israel-based consultant who is familiar with the talks. It would entail construction of an undersea section to Turkey's southern coast and a link to central Turkey.
Israel's huge offshore Leviathan field contains an estimated 17 trillion cubic feet (tcf) of gas, equivalent to almost a year's worth of European gas demand and enough to cover Israel's gas needs for generations. Tamar, discovered in 2009, holds an estimated 280 billion cubic metres (bcm).
"The export of Israeli gas to Turkey via a pipeline or in compressed natural gas (CPG) form in marine tankers are the most economically viable options for exporting large gas volumes from the region," said Mor, chief executive of Eco Energy Financial and Strategic Consulting.
He added that it would be possible to allocate about 8 billion cubic metres of gas per year to supply growing demand in the Turkish market. Zorlu's Yungul and industry sources say the quantity could go up to 10 billion bcm in the event of a deal.
As much economic sense as it would make, a pipeline through Turkey is still at the mercy of politics.
"Of course the most feasible route for Israel to export its gas is Turkey. The private sector is holding talks about this, but political steps must be taken," a government source said.
"We are aware of the talks, but these issues can not be resolved in a couple of months, and such a project could not go through without the government's consent," he added.
Turkey has set precise conditions for Israel if it wants to return to their former extensive ties - an apology, compensation and a lifting of its embargo on Gaza.
Israeli Prime Minister Benjamin Netanyahu in April apologised to his Turkish counterpart, Tayyip Erdogan, over the killings and pledged compensation to the bereaved, but Israel has so far made no compensation payments.
Israel has made no promises to lift the embargo, although Turkey has given indications it could backtrack on that demand.
An Ankara-based diplomatic source said Turkey was not likely to move ahead with the talks until Israel pays compensation.
"The problem is not only Mavi Marmara, though. Erdogan has upset the Israelis with his strong rhetoric as well," the source said.
Earlier this year, Erdogan called Zionism "a crime against humanity", prompting objections from U.S. Secretary of State John Kerry.
(Additional reporting by Ari Rabinovitch in Jerusalem; editing by Jane Baird)