US rig count lethargic despite strong gas prices

The US rig count is lower than current oil and natural gas prices would justify, but two analysts say anticipated sharply higher gas prices this winter should result in a sharp rebound for US drilling activity next year.

By OGJ editors

HOUSTON, Sept. 4 -- The US rig count is lower than current oil and natural gas prices would justify but two analysts say anticipated sharply higher gas prices this winter should result in a sharp rebound for US drilling activity next year.

"The US rig count has historically tracked very closely with energy prices. Recently, however, a substantial disconnect between energy prices and drilling activity has emerged as E&P companies seem reluctant to re-invest their increased cash flows," said Marshall Adkins of Raymond James & Associates Inc.

Banc of America Securities LLC oil service analyst James Wicklund agreed the cyclical and longer-term outlook remains positive despite near-term concerns about drilling activity.

"It will take a higher natural gas price than expected to ramp up drilling activity and more confidence in the stability of that price. But with supply decreasing and demand increasing, moving in different directions, a drilling recovery at some point is inevitable. As a result, the 2003 and the 12-month outlook continue to be positive," Wicklund said.

2002 drilling projections
The US rig count "will likely be at best flat for the next month or 2 with some seasonal acceleration in the December quarter," Wicklund predicted.

RJA has lowered its third quarter 2002 US rig count down to 846 from 882 and lowered its fourth quarter estimate to 856 from 958.

"It is important to note that, despite these lower near-term forecasts, we are leaving our 2003 US rig count forecast unchanged at 1,075. Even though our revised 2002 US rig forecast results in the lower beginning rig count for 2003, we still believe that US drilling activity will see very solid 30% average increase in 2003," Adkins said.

He anticipates higher US gas prices during the winter, adding that most operators are taking a wait-and-see attitude regarding the sustainability of higher prices.

"By holding back spending (and the rig count), gas producers have been able to mend balance sheets and build cash positions. In the next 4-5 months, however, these frugal spending habits are likely to change dramatically," Adkins said.

He expects that both the gas markets and producers will believe in the "sustainability of $4+/Mcf" during the upcoming winter.

Current risk environment
Wicklund said the oil and gas industry has not yet accelerated drilling because "the price required for economic development of natural gas in the current risk environment has been underestimated. This is the dichotomy not currently understood by many and the reason the rig count and oilfield services's earnings are not going up. At least not yet."

Exploration and production companies have a "free option to wait on their drilling plans" while they watch the economy and market direction, Wicklund said.

"The cupboard is bare at least on a relative basis. When natural gas prices started to run up over 2 years ago, oil companies accelerated drilling and basically used up their top tier prospects. It takes time to fully develop another generation of drilling prospects, and they are generally not likely to be as good, big, or easy to find as the previous batch. So, prices must be higher," Wicklund said.

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