Chairman of Sprott Global talks energy.
[This article originally appeared on Sprott's Thoughts and is republished here with permission.]
Rick Rule took at a stance in January that went against many investors’ contrarian instincts. He said to stay away from oil and gas for the time being.
However, Rule has been discussing oil and gas drilling lately in internal broker meetings, as well as conferences.
Does he now think there’s an opportunity in oil and gas?
I met him about it for Sprott’s Thoughts.
Should we be looking at oil and gas drilling? What may make it appealing right now?
Precisely because the oil price has declined, the odds have shifted in investors’ favor.
Over the last eight years, there was more demand for participation in oil and gas drilling than there was supply. The companies had the upper hand over investors.
Now, capital is once again in shorter supply in the oil and gas business, and so the terms are beginning to favor the investors.
In terms of participating in drilling, the general choices available are to take a working interest participation or to participate in drilling through a joint venture or a partnership.
Most of what we’re going to talk about today is in the context of partnerships, which represent about 75% of private capital for drilling.
So we’re looking to take advantage of a lower supply of capital for oil and gas?
Correct. For the eight years prior to the recent price decline, the oil and gas industry funded operations from capital they raised in the stock market, money contributed from other companies, from cash flow, and from debt.
Each of those four sources of capital is much less available now and is much more costly. Yet the need for capital in the industry is serious and is becoming acute.
This seems to happen about once a decade following an oil price decline and we are in the midst of such a period now. Note that a shortage of capital is likely to cause a decrease in drilling activity which ultimately leads to decreases in supply and to higher product prices (market prices for oil and gas).
It’s ironic that a set of circumstances where the terms for investments are more favorable can also cause a rise in product prices – leading to a potentially ‘virtuous circle’ for investors.