Bloomberg: Oil My Slingshot Up After Credit Freezes Rigs

While I doubt the veracity of the current move up in oil [Mar 27: Thesis Buying 101 in Oil - Even Experts Mock It] this Bloomberg piece does parallel completely my thoughts over the longer term that we've been stating for the better part of a year; when the world economy does indeed return to stabilization, and then growth the lack of investment now will cause a repeat of what we went through in 2007 and early 2008 in prices of commodities. [Mar 15: NYT - As Oil Prices Plunge, a Frenzy of Drilling Ends] If indeed the "bull" case of "the recovery" comes true sooner rather than later it will be bemusing to watch the spin on how the unemployed Americans coping with the jobless recovery are somehow benefiting (green shoots!) from the surge in prices. And this does not even begin to discuss all the issues from the money printing and eventual return to much higher rates that the US will be forced to enact to attract capital once fear subsides. So enjoy the good times now (these are good times??) as another Kick the Can policy embarks - and then we can complain about the ill effects "another day". Watching American policy responses is like watching a frantic (drunken?) procrastinator lurching from one emergency to another.

Say what you will about the Chinese, but they are investing for the future (buy when prices are low); they have loaded to the gills their strategic reserves of oil [Mar 9: Reuters - China Government Oil Reserve Full], are bulking up on iron ore [Feb 9: China and the Baltic Dry Index - What's Really Going On?] and apparently have the equivalent of 18 Olympic sized pools of stockpiles in copper [Apr 6: Analysts Estimate Copper Prices Could Fall 21% in Q2] Meanwhile we are printing new US pesos off at a furious pace (or borrowing from the very same Chinese) to subsidize the business of Goldman, PIMCO, and the main line "big banks". Par for the course. One country pro-active, one country reactive.

• The credit crunch will keep U.S. oil and gas producers from ramping up exploration they do through drillers such as Nabors Industries Ltd., setting the stage for shortages and surging prices when demand recovers.
• Chesapeake Energy Corp. and Carrizo Oil & Gas Inc. are among producers spending no more than their cash flow after a collapse in credit markets drove up debt costs. That means they won’t hire the likes of Nabors and Rowan Cos. to drill more wells in anticipation of higher prices. Producers cut capital budgets 17 percent this year after demand slowed and prices plunged, according to Tristone Capital Inc.
• “Quite frankly, they don’t have the credit, which exacerbates the problem that their revenue stream is far below the cost structure,” said Jud Bailey, an analyst at Jefferies & Co. in Houston. “They’re not jumping on lower service costs simply because they can’t. They’re literally stepping away from anything they’re not contractually obligated to.”
• The result may be a “slingshot” effect as spending cuts leave a supply shortage once demand returns, Bailey said. The number of active drilling rigs worldwide has fallen 35 percent from the 23-year high reached in September, according to Baker Hughes Inc. The U.S. rig count has plunged by almost half.
• Houston-based Rowan, a drilling contractor that also builds rigs, said clients are delaying or canceling projects as they wait for service costs to follow oil and natural-gas prices lower. “Our customers are being quite vocal about wanting to reset their costs of operations in this currently low commodity- price environment,” Chief Executive Officer Matt Ralls told investors on a Feb. 26 conference call. Of the 273 onshore rigs Nabors had working in the U.S. in October, more than 150 are now sitting idle.
• “The credit crunch might exacerbate it to some extent, especially the smaller guys that have no access to capital now from the conventional debt markets,” Smith said. “Generally people that are investment grade are still able to borrow, but they’re just being very prudent because nobody knows for sure where their cash flow is going to be.”
• Deepwater drillers such as Transocean Ltd. and Noble Corp. have fared better as producers go forward with large projects under contracts committing them to pay rig rents of more than $500,000 a day in some cases. (this is generally why we prefer to invest with deepwater drillers - because in THEORY their long term contracts SHOULD of protected the stock price. But in an environment of student body left, student body right - that thesis became useless - all stocks in the sector were taken down together regardless of fundamentals)
• The credit crunch sets the current drilling slump apart from the slowdowns of 1997-1998 and 2001-2002, said James Wicklund, chief investment officer at Carlson Capital LP in Dallas. Exploration and production companies have more to consider than waiting for costs to come down, he said. “The problem is instead of just waiting them out, they don’t have the credit markets to rely on this time to re- accelerate their drilling,” Wicklund said. “Before it was like, ‘OK, I’m going to wait until you drop prices by 20 percent, then I’m going to swoop.’ This time, the E&P companies have to live within cash flow.”
• Even as service costs come down, making more projects look profitable on paper, some producers are too starved for cash or credit to ramp up drilling, said Wicklund of Carlson Capital. “This is like all of a sudden, the price of Porsches has come down, but you lost your job,” Wicklund said. “It’s like, ‘Oh, well that’s great that service or Porsche costs have come down, but I still can’t afford it.’”
• Just about all producers will be affected by the lack of available credit, regardless of how much debt they hold, said Subash Chandra, an analyst at Jefferies & Co. in New York. “You’ll find over the last several years, pretty much everyone has borrowed to grow,” Chandra said. “Our industry on average has spent 130 percent of cash flow for a couple years in a row now. It’s kind of standard procedure.”
• “The longer the period of lower spending, the more dramatic the falloff in production capacity will be and the steeper the recovery in oil prices once demand recovers,” CEO Andrew Gould said March 23 at a conference in New Orleans.