US Rig Count Heads Further Down

In its weekly release, Houston-based oilfield services company Baker Hughes Inc. (BHI - Analyst Report) reported a dip in the U.S. rig count (number of rigs searching for oil and gas in the country). This can be primarily attributed to a decrease in the tally of land rigs, partially offset by improved offshore rig count.

The Baker Hughes rig count, issued since 1944, acts as an important yardstick for drilling contractors such as Transocean Inc. (RIG - Analyst Report), Diamond Offshore (DO - Analyst Report), Noble Corp. (NE - Analyst Report), Nabors Industries (NBR - Analyst Report), Patterson-UTI Energy (PTEN - Analyst Report) and Helmerich & Payne (HP - Analyst Report) in gauging the overall business environment of the oil and gas industry.

Weekly Summary

Rigs engaged in exploration and production in the U.S. totaled 1,993 for the week ended December 2, 2011. This was down by 7 from the previous week’s rig count and represents the fourth successive decline.

Despite this, the current nationwide rig count is more than double that of the 6-year low of 876 (in the week ended June 12, 2009) and significantly exceeds the prior-year level of 1,713. It rose to a 22-year high in 2008, peaking at 2,031 in the weeks ending August 29 and September 12.

Rigs engaged in land operations descended by 10 to 1,931, while offshore drilling was up by 3 to 42 rigs. Inland waters activity remained steady at 20 units.

Natural Gas Rig Count

The natural gas rig count decreased for the fifth week in a row to 856 (a drop of 9 rigs from the previous week). As per the most recent report, the number of gas-directed rigs is at their lowest level since January 22, 2010 and is down nearly 14% from its 2010 peak of 992, reached during mid-August.

The current natural gas rig count remains 47% below its all-time high of 1,606 reached in late summer 2008, but has rebounded strongly after bottoming out to a 7-year low of 665 on July 17, 2009. In the year-ago period, there were 961 active natural gas rigs.

Oil Rig Count

The oil rig count, which hit a 24-year high of 1,133 in November, was up by 2 to 1,132. The current tally is way above the previous year’s rig count of 742. It has recovered strongly from a low of 179 in June 2009, rising more than 6 times.

Miscellaneous Rig Count

The miscellaneous rig count (primarily drilling for geothermal energy) at 5 remained unchanged from the previous week.

Rig Count by Type

The number of vertical drilling rigs fell by 12 to 620, while the horizontal/directional rig count (encompassing new drilling technology that has the ability to drill and extract gas from dense rock formations, also known as shale formations) was up by 5 at 1,373. In particular, horizontal rig units rose by 1 from last week’s level to 1,156, just shy of the all-time high of 1,157 reached in early this November.

Our Take

As mentioned above, the natural gas rig count has been falling since the last few weeks, 78 rigs in fact (or 8.4%) from its recent high of 934 in October 28. Is this bullish for natural gas fundamentals? The answer is a no, if we look at the U.S. production and the shift in rig composition.

With horizontal rig count—the technology responsible for the abundant gas drilling in domestic shale basins—close to its record high, output from these fields remains robust. As a result, gas inventories still remain at elevated levels—7.3% above the 5-year average and 1.1% higher than the same period last year.

In fact, natural gas prices have dropped approximately 30% from this year’s peak of about $5.00 per million Btu (MMBtu) in June to the current level of around $3.60 (referring to spot prices at the Henry Hub, the benchmark supply point in Louisiana).

In the absence of major production cuts or a stronger economy to boost industrial demand, which is responsible for almost a third of gas consumption, we do not expect much upside in gas prices in the near term. This has prompted some companies to alter their spending patterns, away from gas to the more profitable liquids-rich projects.

Therefore, we maintain our cautious stance on natural gas-focused land drillers like Patterson-UTI Energy, Nabors Industries and Helmerich & Payne. We expect these stocks (all with Zacks #3 Ranks i.e. short-term Hold rating) to remain under pressure, unless the outlook for natural gas prices improves.

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