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Offshore Drilling: Look, Before You Go Deep

Stocks in this article: RIG DO HERO ESV VTG

Of course, oil and gas exploration is a high-risk business, and not surprisingly, there were some significant stock pops in some of the more speculative oil and gas sector drilling players.

Hercules Offshore (HERO) got off to a quick start on Wednesday, up 6% right after the White House announced its intention to open up offshore reserves. Analysts say that highly leveraged Hercules is more like an option than an equity play.

Nevertheless, investors seemed to come to their senses regarding the vague potential from the sea change in offshore energy, and Hercules ended Wednesday only up 3 cents, to $4.32, and was up by 1.4% on Thursday, to $4.38. Vantage Drilling (VTG) was up 2.7% on Thursday, but 3% of the $1.52 drilling stock represented a gain of 4 cents.

There's a much larger issue related to risk and offshore potential than the most speculative of the drilling stocks. History provides ample evidence of why investors should retain a healthy level of skepticism about the offshore energy assets.

In the Georges Bank area of the North Atlantic, for example, energy company consortiums drilled in 1976 and 1977 to gain geologic information prior to offshore Federal petroleum exploration leasing. After leases were awarded, eight industry exploration wells were drilling between 1981 and 1982. Energy companies forked over more than $816 million dollars for the offshore tracts.

The rewards? As noted in a report from the Department of the Interior in 2000, "None of these Georges Bank wells encountered significant concentrations of oil or natural gas, and drilling has not resumed since 1982."

With that cautionary tale in the rearview mirror, the new offshore drilling, it must be noted, is slated for the mid-Atlantic. The Department of the Interior estimates that the area off the coast of Virginia "conservatively could contain 130 million barrels of oil and 1.14 trillion cubic feet of natural gas."

Investors should also remember that the timeline for much of the offshore assets housed within the new federal policy are not even up for lease sale in the next five years. It is only the mid-Atlantic offshore leases included in the first of two five-year plans announced by President Obama. Potential offshore drilling in the Eastern Gulf of Mexico and the Alaskan areas of Beaufort Sea and Chukchi Sea would not even be put under consideration until the 2012-2017 five year plan.

Interior estimates that 39-63 billion barrels of oil and 168-294 trillion cubic feet of natural gas are economically recoverable from the eight areas under consideration for the second five-year plan.

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