By August of last year, the price of oil was retreating, and it was a hard slog on the way down. By midwinter, in December 2008 and January 2009, oil prices were in the $30s per barrel – a drop of over 75% within six months. It was a wild ride.

Natural gas had a similar rise and fall last year. In July 2008, the NYMEX price for natural gas was around $13 per mcf (thousand cubic feet). By October 2008, that price was cut in half. In fact, natural gas prices trended down throughout the chilly winter of 2008-2009. The current economic pullback – our Great Recession – means that many industries, as well as the electric power sector, are using less natural gas. Think of the mills, plants, factories and other industrial and commercial sites that have scaled backor closed. They don’t need nearly as much natural gas or electric power.

Thus, energy demand has tumbled in North America. The price of natural gas has fallen, and hard. For a while this spring, gas prices couldn’t find a bottom. It’s only been in the past two months or so that the price of natural gas leveled off at around $4 per mcf.

Right now with natural gas prices under $4 we have an extraordinary opportunity! $4 natural gas is the equivalent of $30 oil – it just won’t last.  Better yet, I’ve got the perfect way to play this trend – a company that could hand you as much as 340%.

But before we get to the company I’m talking about, let’s take a look at what happened to natural gas drilling…

Drilling Activity Dropped Off a Cliff

Along with the price collapse for oil and natural gas, there was a dramatic worldwide drop in the count of drilling rigs. Drilling activity scaled back precipitously, in a tumble reminiscent of the previous hard times in the oil patch back in 1981 and 1982. Here’s a comparison between then and now.

If you want more exact details, here are the most recent rig count numbers from Baker Hughes, the world’s preeminent drill bit manufacturer.

Look at that change from last year! In North America – the U.S. and Canada combined – the rig count just plain fell through the floor to a recent level below 1,000. (It has crept up to 1,065 in the past couple of weeks.)

With low oil prices, there was less drilling in the U.S. and Canada, of course. But look at the international rig count. It’s interesting that the international count didn’t drop off all that much over the past year – only about 10% or so, as opposed to a drop of almost 60% in North America.

Why the difference between North America and internationally? The big pullback in North American activity was in rigs drilling for natural gas. That is, over half the drilling activity in North America is for gas. It’s different in the international arena, where most rigs are drilling for oil.

The bottom line is this…

The low prices for North American natural gas didn’t support drilling, hence the massive North American rig pullback. Also, much of the North American gas drill-out of recent years was financed with borrowed money. And the credit crunch froze almost all of the funds that were going into the North American gas-drilling sector.

So less demand led to lower natural gas prices. Lower prices could not support the financing model for the North American gas-drilling business. The easy money for gas wells dried up. And the rig count plummeted. Now what?

The Rig Count Has Found a Bottom

It looks like the worldwide rig count has found its bottom in recent weeks. In fact, the numbers are creeping up a bit, according to Baker Hughes. What’s going on?

Since February, the price of oil has steadily crept back to the $70 range per barrel. That’s up 100% from the midwinter low. The oil price increase clearly supports more drilling.

Why are oil prices up? Here are a few reasons. Cheap oil last winter led directly to lower fuel prices worldwide. Hence, overall world demand for oil stabilized, and in some areas, fuel demand has actually strengthened. Meanwhile, OPEC has cut oil output by about 5 million barrels per day. There’s less supply hitting the markets. Also, China has been filling its strategic petroleum reserve. And Chinese demand is up, year over year. The Chinese are not only buying new cars, they’re driving them.

As for North American natural gas, the price has stabilized at about $4 per mcf. That’s a low number. In fact, it’s barely enough to keep the industry alive in the short term. Some people call it a “gas glut.” It depends on our time frame. Long term? At $4 per mcf, natural gas is barely on life-support. This situation can’t last and it’s our opportunity to get into the KEY ENABLING TECHNOLOGY of the natural gas market, and do it with very limited risk!

Depletion Still Matters

At the same time, old Mr. Depletion is working his efforts. Hydrocarbons are, of course, depleting substances. Every barrel of oil lifted to the surface is one barrel less down in the hole. Every mcf of natural gas that blows out of the formation is one less mcf down there.

So each day of hydrocarbon production brings every well one day closer to the end of its useful life. And with most modern wells, the output curves are falling off pretty steeply in the first year or two. It’s counter to what a lot of people think, but it’s reality.

Wells don’t just produce large volumes of oil and gas year after year. Indeed, it’s a rare well (at least in North America, which has been drilled like a pincushion) that produces strongly after even one year. Most wells just plain slack off and output drops after the first few months or so. Sure, a well eventually will settle in at some level of output. And that level might last for many years. But in almost EVERY case, it’s a much lower level than in the first few months of the well’s existence.

We Need to Drill Wells

The only way around depletion is to drill more wells. In a broad sense, you have to look at well drilling as a long-term industrial process. The energy industry needs a pipeline (so to speak) of thousands of drilling prospects that get drilled on a regular basis. Break the process – with wild swings in the pricing mechanism, for example – and you’ve got trouble. We just plain need to drill wells.

But with the rig counts way down in the past year, a lot of those wells we need to drill have not been drilled. Thus, the energy process is derailed. The future is NOT now. In fact, the energy future is now moving out of our immediate control. The U.S. could be looking at serious depletion-induced natural gas shortages within a year to18 months. So the drilling cycle needs to kick back into gear.

Sooner or later – and I believe sooner – the rig count HAS to head back up. On the oil side, prices can support most drilling at this point.

Until we meet again,
Byron King

August 3, 2009

Prepare for the Rebound in Drilling was originally featured on Whiskey and Gunpowder

Speculators are speculating because there is something about which to speculate. (Let me thank my sixth-grade English instructor for teaching me how to compose that sentence.)

Remember when oil ran up back in 1979 and 1980, when the entire Iranian oil industry collapsed in the wake of Ayatollah Khomeini’s Islamic Revolution? About five million barrels of oil per day simply left the world marketplace. It was gone — poof! Not there. No tankers.

Even though five million barrels went away, people could still look to places like the North Sea, Alaska, Angola and elsewhere. And they could feel certain that sooner or later, there would be future oil supplies flowing down the pipelines.

But that’s not the case today. When people look ahead now, they don’t see from where the oil of the future will come. Most of the world’s current large oil fields are in decline.

As for the so-called oil speculators, they are just defending the value of their money. They are looking forward a few years. What do they see? All of the current energy development projects will just barely replace the oil that will NOT be coming from declining oil fields. So peering ahead, there’s no net increase in future oil output. We’re looking at a plateau in output, if not the backside of the Peak Oil curve.

But we are looking at growing energy demand, as well as demand for other resources. So investors have placed hundreds of billions of dollars into energy and other commodity funds during the past two years. They are both hedging against dollar inflation and anticipating future supply shortfalls.

Long term, this is great news for one of my Outstanding Investments recommendations, a Canadian tar sands company. This company is facing higher capital costs, as well as higher costs for inputs like natural gas. And it suffers from a raw political bias (suicidal, in my view) against synthetic crude oil because of the carbon dioxide emissions.

Along those lines, some politicians in the U.S. want to renegotiate the North American Free Trade Agreement (NAFTA) that includes Canada. Word to the wise: Don’t go there!

Really, if the U.S. renegotiates NAFTA with the Canadians, our friends to the north will have some surprises in store. The U.S. will rue the day that it tore up NAFTA with the Canadians, because that will just plain shut off many of the valves on a lot of pipelines.

Seriously, the Canadians have eager buyers for their energy resources, and they don’t need us Yankees. Just keep in mind that downstream, people will demand oil, and companies that have it will make money.

Getting back speculation, those “speculators” are not the problem. Speculators are sending a message that policymakers had better heed. American politicians better get serious about finding pathways through the “energy issue.”

Although I do have political opinions, I try to keep them private, especially careful not to hurt the feelings of any of my readers.

But that does not mean that I don’t have opinions within areas of my own expertise. If you are reading this, you must know that oil prices have doubled in the past year. There are profound supply issues looking forward. (I’ve been writing about Peak Oil and related issues for Agora Financial for four years.) And world demand is still rising, despite the very slight pullback in U.S. oil usage in the first half of 2008.

Whoever wins the race had better be ready to think in terms of energy. And I mean from day one.

Energy is not just “another issue.” It’s not as if a politician could “do energy” and then move onto other important items on the agenda — like appointing your friends federal judges and handing your political donors prestigious ambassadorships.

Energy will be the defining issue of the next president’s term of office. This is already baked into the cake. Nothing will change it, short of a major war. And even fighting a major war will be controlled by the energy issue (as was World War II, by the way — another long story). The U.S. won’t go to war over most things. But we’ll fight over energy. Or where have you been?

Every U.S. president has had something associated with his term of office. It might be good. It might be bad. But it’s the shorthand way in which we remember the guy. When I think of Lyndon Johnson, I think of the Vietnam War. When I think of Richard Nixon, I think of Watergate. When I think of Ronald Reagan, I think of him meeting with Gorbachev and winding down the Cold War.

The next president’s big issue is already on the table. It’s energy. It has been decided.  The gods and fates have so dictated. Everything else is window dressing. Everything else is just the White House Easter egg hunt. Nothing else will control the outcome of the next president’s term of office. Energy, that’s it.

Energy. Take it or leave it. Except you can’t leave it. The nation needs to get energy right. We can have energy supplies for the economy. Or we can just decide to wind down the 232-year-old experiment called the United States of America. We can hop, skip and jump into James Howard Kunstler’s The Long Emergency. It’s that stark.

Here is the slogan for the next White House Situation Room: “It’s the energy, stupid.” Practice is over. It’s game day. It’s time to suit up and play. What’s your plan?

And we can’t just do 20 more years of energy research. Really, suppose that nobody ever filed another patent for a new and better invention in the field of energy. We could spend the next century just rewiring the nation based on what we already know how to do. The future is one of systems engineering. The future is all about taking the ideas and technology that’s already out there. Bring them down off the shelf and make them work to run the country.

So if the next president-elect is not ready to tackle the energy issues of this nation, he just ought to stay home on Inauguration Day. Don’t waste our time.

Until we meet again…
Byron W. King
July 8, 2008

P.S.: It’s become clear that oil and energy have become the dominant issues in this closely contested election. The sky-high prices along with increased media attention mean that solving this problem is paramount to many politicians and innovators alike. That’s why we’ve seen some incredible improvements recently that could go a long way toward solving this problem. One of the best inventions we’ve seen in a decade is finally being released and could be the solution we’ve been looking for.

Oil Speculation was originally featured on Whiskey and Gunpowder