Forget About the Rig Count

A lot of natural gas industry observers, seeing the combination of a dramatic drop in the rig count and resilient monthly production data, have been left scratching their heads. Isn't the rig count supposed to be a reliable indicator of future production levels?

Not anymore, says consultancy BENTEK Energy. The firm contends that rig efficiency, rather than the absolute number of rigs in action, is the key driver of natural gas production today. I wholeheartedly agree.

All year, we've watched E&Ps drop rigs, but maintain or grow production. In August, I argued that "being such efficient operators, exploration and production companies like Range Resources (NYSE: RRC  ) and EOG Resources (NYSE: EOG  ) are actually prolonging the downturn in natural gas." I think that was the right call. The most recent government numbers (there's a two-month delay in the reporting) show that daily gas production in the Lower 48 increased from July to August, and has fallen less than 1% from its February peak.

It's all about the productivity. BENTEK cites research by Helmerich & Payne (NYSE: HP  ) that found that Barnett shale wells drilled by the likes of Devon Energy (NYSE: DVN  ) in 2008 were three times more productive than the average U.S. land gas well in 2006. For Haynesville wells, which are coming on huge for folks like Petrohawk Energy (NYSE: HK  ) , make that 10 times. The consultancy's BENTEK Productivity Index is designed to show the "effective" rig count, incorporating a host of technological advances in the oil patch, from pad drilling to multi-stage fracture stimulation.

As of Oct. 16, the BPI stood at more than twice the actual rig count. A multi-year plot of the two measures against one another shows a steep drop into early 2009, followed by a dramatic upturn in recent months. The takeaway is that the natural gas industry, having high-graded its drilling opportunity set through the downturn, is not that much less productive today than when the rig count was dramatically higher.

This is a great conceptual tool for oil and gas investors to better understand present industry dynamics. It also provides some counterweight to the argument put forth by Chesapeake Energy (NYSE: CHK  ) that higher prices are right around the corner. Fools, I suggest you keep an eye on that BPI!