Weekly Market Assessment
The Saga Continues: Where Did All The Rigs Go?
Capital spending is in free fall, a decline curve that is never sleeping and now a complete collapse in the drilling rigs in the United States. So what do you need other than capital to make up for the loss in oil production? Drilling rigs of course. As I have mentioned in the previous assessments, the United States has over the course of five plus years, become the third largest oil producer in the World. All due to the new technology known as fracking. This has brought on new supply to the market of around 1 million new barrels each year over the last five years. That is almost unheard of when looking at other oil producing regions around the world. Leave it to U.S. innovation and its ability to revitalize and bring back to life the oil industry after being somewhat dormant for almost 20 years!
In 2009, there was around 200 drilling rigs bringing oil to the surface. The amount of rigs being used exploded with the new technology and the new shale basins being discovered that could put the United States back on the World map as an oil producing country, and it did! By late 2014, the drilling rigs reached a peak, where just about 1,600 rigs spread across the nation actively drilling wells, an eight fold increase! This of course was accompanied by a 100% increase in oil being produced over the same period. Everyone and their mother rushed back into the oil business to get a piece of the piece while prices were high and the slogan "drill baby drill" was born! However, like everything else in the world, what goes up will eventually fall victim to the laws of gravity and must come down. In this case, the amount of rigs being used has literally fallen right off a cliff and has gone back to levels witnessed in 2010.
Below is the Baker Hughes North American Rotary Rig Count, which is a weekly census of the number of drilling rigs actively exploring for or developing oil or natural gas in the United States and Canada, it has issued the rotary rig counts as a service to the petroleum industry since 1944.
[Above shows the complete collapse in the U.S. drilling rigs (blue line) due to the oversupply of crude (red line) in the market]
Rig counts serves as a loose barometer of the health of the industry and the current rig count is 56% less then in late 2014. Looking at the three major oil basins in the U.S., the rigs in the Bakken are now down 65%, the Eagleford is down 40% and Permian Basin is down 59%. I'll be shocked if oil production doesn't follow the collapse in the rig count. On Friday we lost another 34 rigs, which puts us down 945 rigs since this time last year and now there are currently 664 working rigs. The freefall in rigs looks to continue as oil has dropped to a new 12 year low and hit $29.92 a barrel.
Andrew Hall, of Astenbeck Capital, who is referred to as "God" in the oil trading business has this to say about the decline in drilling rigs. "There is a significant lag time between laying down the rigs and production rolling over. Production peaked in June of last year and has since dropped by 500,000 barrels per day. The production in shale/tight oil production rolls over first." OPEC's not the only balance of the market. The United States is back in the role of swing producer, a role it hasn't exerted in six decades. If the U.S. has become the swing producer, then a drop in production from U.S. drillers will put the market in balance and in a much faster fashion that comes with its ultra high decline rate and lack of drilling rigs to make up from the loss in production.
In another statement about the decline in rig counts from David Demshur, who is the CEO of Core Laboratories. "In the second half of 2014 in the United States, we completed 19,000 wells. This year (2015), we are going to complete only 9,000 wells. This sear drop in the amount of drilling will have a significant impact on the amount of production coming out of the United States." How big is this production hole going to be, along with the decline rate and how long will it take to fill it, when the market realizes we are undersupplied? That is going to be the scary part, its not a matter of if, its a matter of when. Emad Mostaque an oil strategist had this to say,"Supply is approaching the "Wile Coyote" moment, particularly in the U.S. where production could fall 1 million barrels per day versus expectations into the next year(2016) as lower drilling and spending catches up with the market."
So, is the market reading this wrong or is their something else at play here, or are we just that oversupplied? Well, we also have to remember the oil market has never gone through this before. Meaning, since the fracking revolution reigned in on the oil industry, this will be the the first correction since new unconventional oil has come into the market. I want to quote Ed Morse of CitiGroup, who is the Head of Global Commodities Research and recently ranked one of the "36 Best Analyst on Wall Street" had this to say. "This is a new world that we have never been through. The first adjustment of the shale and unconventional oil production in its history and its something new." This something "new" could drop production in the U.S. alot faster than most think and with the lack of active rigs looking for and producing oil, gives us almost no wiggle room when oil is needed. This is where the term spare capacity comes in, which will discussed later.
Knowing this, we have no idea how the oil market will respond. However looking at certain inputs such as the major cuts in capital spending, ultra high decline rates and now falling drilling rigs, should help paint a picture of a future oil market and most likely one with a much higher price tag attached to it.
Making the Watchlist: Below are the stocks that I will be looking at over the coming months. I will provide the the current stock price and why I am watching them. I will comment on them as I continue to keep an eye on them. You will be able to see and follow their growth and/or decline. Chart links may be attached.
See What I'm Trading:You can now view all my real-time trades by following this link, BlackPacific Capital1. This new site shows my trades, in real time the minute they are bought and sold. Below you can also click on the stock symbols, trade strategy or prices which will lead you to this new site. The site offers a full risk/return profile and video detailing the strategy of the trade. Note: When looking at the option positions every contract equals 100 shares.
BlackPacific Capital has created three funds. The first is the Total Return Fund and the other is the Growth Fund. Both of these funds will be compared against the S&P 500. Both will hold a total of no more than five companies each. The Total Return Fund is a low turnover fund where every holding must have a dividend and be undervalued to its peers. The growth fund is made up of momentum high growth stocks where the turnover rate is much higher. Below are their Weekly and Year to Date returns. For more information and to see the holdings in each fund click here.
New holdings and liquidated positions:
I have added Under Armour (UA) at $67.50 to the growth fund. It is not part of the returns below.
S&P 500 Return
Year to Date: -5.62%
Total Return Fund Return
Year to Date: -10.99%
Year to Date: 1.66%
Year to Date: -12.04%