Rig counts are the measure of the number of active drillings for oil and gas. Baker Hughes, an oilfield services company, reports rig counts weekly. An increase in rig count is an important barometer of oil and gas producers’ confidence in drilling activity. Oil companies involved in the drilling activity are Chevron Corporation (CVX) and Hess Corporation (HES). Both are part of the Energy Select Sector SPDR ETF (XLE).
Rig counts and crude oil
The US oil rig count has been declining from the peak in October 2014 of 1609 to 1499 in December. The month of December saw a consistent decline in drilling activity. Since the beginning of 2014, the number of oil rigs in operation increased by 121, or ~8%.
The rig count started to drop with concerns of declining crude oil prices. Crude oil prices have fallen ~53% in 2014. If oil prices continue the downward trend, drillers will have low margins to drill. Oil prices below the production cost could even cause some oil producers to stop operations. Production might drop in the long term, and supply will decline in the long term This will have a positive impact on oil prices.
Oil-producing companies such as Laredo Petroleum (LPI), Whiting Petroleum (WLL), and Marathon Oil Corporation (MRO) work in some of the unconventional shale oil markets, so they have high operating costs.
What investors should watch
Investors who follow rig counts will see that when rig counts increase, oil companies are spending more on drilling activity. This is a positive for oil companies. They expect oil price to rise. Falling rig counts, on the other hand, show that oil producers are concerned. This is a negative for oil companies and indicates that oil prices are expected to be low in the medium term.
Investors should also know that the US dollar impacts oil prices. We’ll cover this in the next part of this series.
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