Prowling Oil Stock Bears Presenting Opportunities

Yesterday, I was buying E&P (exploration and production) stocks as they took a tumble of 2% to 4%. Talking heads are blaming low natural gas prices, which fell 3% yesterday. However, I suspect that the E&P bull market may be over. Most of these stocks barely react to positive news and are significantly weak on negative news. As I warned in the past, the DJIA as the driver of E&P stocks now appears to be failing. It may be a whole new ballgame.

Williston Basin stocks that I bought yesterday are Brigham Exploration (BEXP) at $15.59 and Continental Resources (CLR) at $37.33. I bought natural gas E&P firm Petrohawk (HK) at $19.57. All of three of these are doubling down on positions that I already hold.

Drilling Services Industry: Yesterday, I looked at contract drilling firms, the firms that E&P companies hire to actually drill the wells. This is a very cyclical business.

The demand for drilling rigs today is largely limited to rigs that can drill horizontal wells in shale plays. These “unconventional” rigs are best described as new (or recently rebuilt) big, electric rigs with top drives that are equipped for underbalanced drilling.

Today and for the next few months, at least, unconventional rigs can find work. Conventional rigs are in such oversupply that many of them are idle. Drilling contractors are rapidly converting conventional rigs to become unconventional capable. So the supply of horizontal-capable rigs is increasing.

Yesterday, drilling contractor stocks were in full retreat, I looked at three of them: Helmerich & Payne (HP), market capitalization = $3.8 billion; Pioneer Drilling (PDC), MktCap = $378 million, and tiny Union Drilling (UDRL), MktCap = $134 million. HP and PDC have some international operations, some non-drilling operations, and still have significant number of unconventional rigs. Normally HP is the only of these stocks that I follow.

Union Drilling (UDRL) is tightly focused on the kind of shale plays that I’m interested in. It has no international operations and no non-drilling operations. 55 of its 71 rigs are unconventional rigs. Yesterday in the last five minutes of trading, I tried to buy UDRL at $5.80 but only got a fraction of the shares that I wanted. Union Drilling is very thinly traded; always place a limit order. Had I placed a market order, I easily could have paid $6.20 or much higher for the remaining shares.

Exciting Market Close: E&P stocks vacillated all day but hinted at a buying opportunity. At 3:30 EDT, with only 30 minutes left, the DJIA began sinking, and driving E&P stocks into a panic. What is strange is that the DJIA ended almost unchanged, but E&P stocks were down 2% to 4%, mostly in the last 30 minutes.

By 3:45, several stocks were in my buying range. After that, I was so busy making and modifying orders that I was caught unaware at 4:00 that the market had closed. I made all four of the trades described above in the last 5 minutes of trading.

I made two minor mistakes. I bought twice as much Continental Resources as I had intended to, and I put my Union Drilling order in at 3:58 when it had very little chance of completely filling. Had I stuck to my rule to follow only a few stocks and to focus on only one or two in any given day, I would not have erred. But these are tiny mistakes, and providence always intercedes in my favor.

This is the only excitement that the market has provided in the last two weeks.

Recommendations: I am still 90% in cash. In fact, Wednesday I bought more TIP fund at $103.30; TIP owns treasury inflation protected securities. I am still waiting for a major pullback in E&P stocks and am preserving most of my cash for that. However, I can’t be assured that the pullback will come. Thus I’m making selective investments.

In addition to the stocks that I mentioned above, I’m looking for buying opportunities in Quicksilver (KWK) at $13.50 or lower; it closed at $13.38. Quicksilver is a good (but not great) Barnett Shale natural gas stock. However, its attraction for me is that it also owns large tracts of speculative oil acreage in Western Montana and in the Horn River Basin in NE British Columbia.

Newfield Exploration (NFX) closed at $48.35 only 1.7% above my initial target price to buy at $47.50 (or lower). Although I have concerns about Newfield’s management and its lack of focus, they have a very large undeveloped oil acreage position in the Williston Basin, and large blocks of speculative acreage in Eagle Ford play and in the oil play in Western Montana.

I already hold a bit of Arena Resources (ARD), and will probably double down (buy some more) at $30.80 or lower. Natural gas E&P giant, Chesapeake Energy (CHK) is at it 30, 90, and 180 day lows. The temptation to buy is strong.

I remain gloomy about natural gas. There is so much of it and E&P firms have gotten so good at drilling for it that the current oversupply may last indefinitely. That said, no one is very good at forecasting natural gas prices, either in magnitude or timing.

Philosophy: The trend is not your friend.
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News Briefs: American Oil & Gas in Bakken; Eagle Ford Activity

American Oil & Gas Scores Average Hit in Williston Basin

On 23 March 2010, American Oil & Gas (AEZ) announced that the Tong Trust 1-20H well tested at 1,421 BOEPD (barrels of oil equivalent per day) – 1,114 BOPD and 1.84 MMcf of natural gas from North Dakota’s Bakken horizon during an early peak 24-hour period. AEZ used a 25-stages frac stimulation. American only owns a 27% working interest (WI) in the well but has much acreage in the vicinity.

This is a good well, but hardly a great well. For American Oil & Gas, it has largely derisked surrounding acreage, essentially legitimizing AEZ as a successful Bakken explorer. AEZ has yet to demonstrate that it has the money or management expertise to transition into a production firm.

AEZ drilled their second well, the Viall 1-25H (95% WI), with a 9,223' horizontal lateral targeting the Bakken horizon. AEZ scheduled fracing for mid to late April.

AEZ owes 6% Heidi 1-4H well, which is being drilled by Newfield Exploration and i+s targeting the Three Forks horizon. The Heidi well is in a better location than Tong Trust. Completion results from this well are currently expected in late April or early May.

American started drilling the Summerfield 15-15H well which is outside the Goliath Project and is relatively unimportant to AEZ. It is a short-lateral well with only 640-acres spacing, rather than a 1280-acre long lateral.

Recommendation: AEZ remains speculative. The Tong Trust well is not the 3,000 BOEPD gusher that would have sent AEZ’s stock into the stratosphere. In general, I’m still looking for a pullback in North American oil exploration and production (E&P) stocks. Then I first be looking at Denbury (DNR), Brigham (BEXP), Continental (CLR), and others.

Effect on Other Operators: The Tong Trust well test is moderately positive news for Newfield Exploration (NFX) and Brigham Exploration (BEXP), which own acreage between Tong Trust and Brigham’s better acreage to the WSW.

Natural Gas Stocks Beaten Down by Low Gas Prices.

On Tuesday (22 March), NYMEX natural gas prices fell from about $8.00 per MCF to $7.35 to $7.50 per MCF.

Chesapeake (CHK), the great aggressive beast of natural gas firms, was hit hard; its stock has fallen 9% in the last week. CHK is the number one acreage holder and number one driller in several major shale plays. It currently is using 118 drilling rigs. Smaller firms like Brigham Exploration are stretched just to keep 4 rigs drilling.

Chesapeake’s sheer size normally makes it unattractive for me. But I’ll be tempted if it continues to drop.

I purchased two gas stocks. I bought Petrohawk (HK) at $20.62 on 18 March and tried to buy more on 22 March. I got too greedy and tried to buy at $19.00; HK bottomed at $19.25. Also on the 18th I bought EQT at $20.62.

Natural Gas is a seasonal commodity, with lows in the spring and fall. Whether this pattern will repeat this year is not clear. Natural gas E&P firms hold massive acreage and have the capital to drill to the extent that they may be flooding the natural gas market. Much of the current drilling is either just to hold those leases or to produce from the very best land. Technology has advanced to the point that the cost of drilling and fracing wells has fallen on a per MCF basis.

Recommendation: I may continue to buy Petrohawk and EQT if they continue to fall, and I may get my feet wet in Chesapeake and some other gas stocks. However, I consider all natural gas stocks more a speculation than an investment. Most of my money I’m saving for oil stocks.
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EQT a Pure Play in the Marcellus Shale

EQT Corporation is a pure natural gas play in the Marcellus Shale. EQT holds 3.4 million acres in the Appalachian region including 500,000 acres that have potential for the Marcellus Shale.

The Marcellus shale is the hottest gas play because it combines excellent production with nearness to the eastern market. Do not underestimate the importance of Marcellus to America’s energy security.

EQT is Appalachia’s second largest natural gas producer behind coal giant CONSOL whose $3.5 billion purchase of Dominion Resources on 16 March 2010 made CONSOL number one. EQT has an established natural gas processing and pipeline system connecting it to the Pittsburg market and to several key interstate pipelines.

EQT is very aggressive. In 2010, it will drill up to 278 new wells and expand its pipeline system to move new production to market.

EQT’s market capitalization is $5.5 billion, which is a little large, but competing in the Marcellus shale is requires investment in processing plants and pipelines as well as in drilling new wells.

EQT is a low cost operator with both low finding and development costs and low operating costs. For its new Marcellus wells EQT claims: “At an average cost of $3.0 million per well, EQT's development cost is estimated to be less than 75¢ per MCF, which is among the lowest in the industry. The 30-day-average initial production rate for the company's seven wells completed in 2010, averaged 7.0 MMCFE (million cubic feet equivalent) per day; ranging between 2.7 MMCFE and 15.8 MMCFE per day.” [Those are great numbers.]

A small negative is the EQT, which was once called Equitable Gas, owns a gas utility that sells gas to homes, businesses, and industry. The utility business essentially requires no new capital commitment.

EQT’s Recent Capital Events

Marcellus Shale Purchase: On 2 March 2010, EQT bought 58,000 net acres in the Marcellus Shale from a group of private operators and landowners. The acreage is located primarily in Cameron, Clearfield, Elk, and Jefferson counties in Pennsylvania. The purchase includes a 200 mile gathering system and approximately 100 producing vertical wells.

EQT will pay approximately $280 million, 90% with EQT stock and 10% with cash.

New Shares Offered: On 10 March 2010, EQT offered 12,500,000 shares at $44 and gave underwriters a 30-day option to purchase 1,875,000 additional shares.

Dilution of EQT Common: Total dilution for the new stock offering and for the above purchase of Marcellus acreage with stock is about 15%.

Recommendation: I bought some EQT yesterday at $42.56. I’m still expecting a major decline in E&P stocks; so proceed with caution.

Other Buys Yesterday: Prices of E&P stocks, especially natural gas stocks, declined sharply after morning inventory figures showed more gas surplus than expected. I bought Brigham Exploration @ $16.18, and Petrohawk @ $20.62. EQT and Petrohawk are natural gas E&Ps, while BEXP is an oil E&P.
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Brigham Exploration (BEXP) News, Bakken Horizon; Petrohawk (HK) Sells Reserves

News from Brigham Exploration (BEXP) per their Press Release Yesterday afternoon,

Acreage Acquisition: Brigham purchased over 10,000 net acres in the northeastern portion of its Rough Rider project area; the purchase will close on April 10th, 2010. Assuming 3 wells per 1280-acre spacing-units, this will yield 23 wells in the Bakken horizon, and more speculatively another 23 in the Three Forks horizon. Unless, BEXP brought something to the table other than money, they likely paid full value for this acreage.

New Ross Area Well: Brigham’s Jerome Anderson 15-10 #1H Bakken had an early 24-hour peak-rate of 2,678 BOPD (barrels of oil per day) and 2.62 MMCF/D of natural gas. Brigham has a 50% working interest in this well, which was completed with 30 frac stages. The Ross Area is east of the Nesson Anticline in Mountrail County, North Dakota, this well helps delineate the northeastern porton of BEXP’s Ross acreage.

Two New Rough Rider Area Wells: Rough Rider is BEXP’s largest project and is to the west of the Nesson Anticline.

The Papineau Trust 17-20 #1H was completed with 29 frac stages and tested at 2,616 BOPD and 2.55 MMCF/D (early 24-hour peak-rate). This well is in the southern portion of Rough Rider, only two miles west of BEXP’s Mrachek well.

Kalil 25-36 #1H was completed with 30 frac stages and tested at 1,334 BOPD and 1.51 MMCF/D during its early 24-hour peak flow-back period. The Kalil well is in the center of BEXP’s large, solid block on its acreage in NW Rough Rider. When adjusted for the number of stages, this well is consistent with BEXP’s wells in this area.

BEXP Recommendation: All this news is good news, but not unexpectedly good news. These wells show progress from previous wells, confirming the steady progress of completion technology.

Petrohawk Sells Terryville Field for $320 Million:
$500 Million Raised So Far

15 March 2010: Petrohawk Energy Corporation (HK) today announced it has sold its interest in Terryville Field, located in Lincoln and Claiborne Parishes, Louisiana, to a private company for $320 million. The sale is the second of four asset packages expected to be sold by the Company during 2010.

Petrohawk has raised $500 million from the sale of older proven assets this year. It's intent is to use the cash for drilling higher return wells in the Haynesville/Bossier Shales and the Eagle Ford Shale. The stock is a little weak due to poor natural gas prices (now $7.90 MYMEX).

Recommendation: Petrohawk is a natural gas stock, not an oil stock. I'm looking to buy a some below $21.00, with the intent of picking up more in the event of a major drop in HK stock price.
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News Briefs: Brigham Exploration (BEXP), Petrohawk (HK), Whiting (WLL)

Bud Brigham (CEO, Brigham Exploration, BEXP) sold 275,000 shares at $17.52. I don’t consider it a major negative; nonetheless is shows selling by the guy who knows more about Brigham than any one. He still owns about 1 million shares.

Petrohawk Energy (HK) is selling its Oklahoma WEHLU natural gas property for $155 million. This is the first of its four property sales planned for this year. Proceed will be used to drill more wells in the Haynesville and Eagle Ford shales.

The move is an excellent one, which allows Petrohawk to concentrate its capital in its most profitable plays. I was looking to buy HK for about $20.50, but this news has driven

Whiting Petroleum (WLL): I remain very positive on this company, but suspect that its overpriced at $78.00. Whiting apparently feels that its new and large North Dakota “Lewis and Clark” project is largely derisked. It is a Three-Forks-horizon-only project as the Bakken is not present there.

Whiting paid only $200 an acre for the leases, but drilling costs will be a bit higher. Lewis and Clark wells are likely to be a little below average, but still highly profitable. Whiting has only 1 drilling rig there now but could have 9 rigs by year end.

Hedging Oil Is Necessary for independent E&P (exploration and production) firms. Continental Resources (CLR) was one of the few firms that refused to hedge oil. In 2009, when oil prices fell from $130 to $30 per barrel, CLR suddenly face a cash flow emergency. It was drilling with 32 rigs, and was forced to cut that to 2 rigs as fast as it could.

Now Continental hedges its future oil prices out as far as two years, like other small-cap E&P firms do. CLR found out that a conservative balance sheet is no substitute for a guaranteed cash flow. Banks that loan money almost force E&P firms to hedge some of their oil; after all, loans are serviced by cash flow.

I’m Cash Heavy: I’m about 90% in cash. Don’t take my blog as a suggestion that you should put every last dollar in to small oil stocks. I’m just playing with the riskiest part of my money, and waiting for oil prices to make a major retreat. I do not predict a major drop in oil prices but think it is more likely than a major advance.
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