Ultra-Deepwater Rigs are Back

Posted by Ian Cooper - Tuesday, December 7th, 2010

From Wealth Daily's Christian DeHaemer:

Ben Bernanke, head of the Federal Reserve, went on 60 Minutes over the weekend and talked about a third round of quantitative easing (QE3). 

I'm of the opinion that you can't spend your way out of a debt crisis, but Ben believes in “priming the pump” by spending — or loaning to banks, anyway. And by banks, we mean the massive trading companies that got us into this mess to begin with.

Bernanke thinks that by giving money to banks so that they can loan it will spur small business growth and other spending...

The problem is that money is like your ex-girlfriend; it goes where it is treated best. And right now, the market believes that the commodity super-cycle spurred by emerging market demand and inflationary fears will continue to push higher. 

Unintended consequences

As I write this, oil is running just shy of $90 a 26-month high. Gold popped up to $1,424 — a near record. Silver is at a 30-year high.

According to the Associated Press, Bernanke said he hopes the Fed's bond buying will lower bond yields and encourage investment in stocks, boosting business activity and economic growth in the country.

But what is happening is that — at a time when we need inexpensive commodities to lower costs — we have record prices in coal and gasoline will average more than $3.00 a gallon by Christmas.

If you remember the sharp rise in commodity prices (most notably oil to $147 a barrel) crushed the U.S. economy back in 2008. The low price of oil ($33bbl) coincided with the bottom in March of 2009.

(Oil is black, SP500 is gold in the chart below):

oil v gold 
The shakeout in commodities also took out a host of highly-leveraged hedge funds as they got crushed with margin calls.

The New York Times reported in March 2009 that more than 200 hedge funds went under with losses of $84 billion.

In December 2008, I recommended buying four gold companies that were trading at less than cash at the time. This was back when gold miners were sold off to a negative market value during a severe economic crisis, and when the gold price was moving up as a safe haven.

That is the power of speculators in the commodities market.  

And right now, the speculators are being fed free money from Ben Bernanke (and will continue to receive money until unemployment drops) and putting that money to use in the commodity market.

There are three basic tenets behind the latest commodity boom: The first is that the U.S. dollar will be devalued and debased forcing smart central bankers to replace dollars with gold; the second is strong demand, due to 5 billion people having higher living standards; and the third is an inflexible supply, due to the cash crunch of two years ago which killed off many new projects.

These trends will continue for the next five to ten years.

Coal

Last week, I told you about the high price of coal and how Warren Buffett bought a transcontinental railway to take advantage of shipping coal from the United States to China.  

As I write this, coal is hitting a two-year high. In the United Kingdom, power producers are turning from coal to wood. According to Bloomberg: “Using coal to make a megawatt hour of electricity in the UK costs 40.25 euros ($53), compared with 39.35 euros for wood.”

Black gold

As the price of commodities continues to go up, the first market segment that will benefit will be the explorers. These are the wildcatters that go out and discover new oil. 

The second segment that will go up is the drilling contractors. These are the folks who rent out rigs, at up to $500,000 a day, to major oil companies.

Last week, President Obama imposed a seven-year drilling ban in the Gulf of Mexico, which knocked the drilling contractors down a bit. But despite the GOM being an empty lake and the likelihood of Sarah Palin overturning this ban in 2013, the drilling contractors are bullish...

Since the only new major finds are in deep-water — like the Tupi field off the coast of Brazil or the Xikomba field off Angola — those rigs that are in the highest demand are also new, advanced, and deep-water capable.

Drilling contractors are bullish

According to Rigzone, an industry sheet:

The number of deep-water discoveries has picked up again as the global financial recovery and sustainable oil prices have prompted national oil companies, majors and independents to begin spending again on exploration. Drilling companies are finding that operators are opting for high-specification rigs, including rigs with dynamic positioning (DP) capabilities to meet more challenging geological plays as well as increased safety and operational standards.

Demand for these ultra-deepwater rigs is high. In fact there is full utilization through 2010, and it is looking tight for 2011.

For this reason, companies like Dryships (DRYS), Pride International (PDE), Seadrill (SDRL), and Noble Corp. (NE) are ordering billions of dollars of rigs to be built in South Korean shipyards.

According to RigLogix: “30 drillships rated for drilling in water depths greater than 9,800 feet have been delivered this year or are scheduled for delivery through 2013, while 24 semis capable of drilling in greater than 2,461 feet of water will be delivered through to 2012.”

Despite the BP oil disaster over the summer, drilling contractors are coming back. There are two dominant trends for the next decade: Commodities will be in demand, and the U.S. deficit will undergo the soft default of inflation.

Sincerely,
chris sig
Christian DeHaemer
Editor, Wealth Daily


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