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Speculating the Oil Rebound

Despite all the derivatives, options and short-selling strategies that Wall Street has at its disposal, investing’s first maxim – buy low, sell high – is what drives Mad Money. That’s why Cramer is constantly hunting for out-of-favor stocks and sectors on the verge of a move. The less the market likes a company, the lower share price, and that translates into a greater possible return.

As crude prices fell from their near $150 highs, it would have been hard to find a more out-of-favor group than oil and gas. Take explorer Continental Resources , for instance. From top to bottom, the stock swung between about $84 and $12. Many of the company’s peers shared a similar fate, as investors flocked elsewhere in search of profits.

But CLR closed Friday at $27.57, regaining lost ground as crude worked its way back to just under $70 a barrel. More importantly, though, the company is much stronger now than it was at oil’s peak, and it continues to improve. Plus, the stock can be had at a much lower price.

What’s so different about Continental Resources these days? The company cut the time necessary to drill a well by 50%, to 30 days from 45, and production costs have dropped to $14.24 a barrel of oil equivalent from $17.29. CLR predicts even lower costs in the future as it negotiates better drilling-rig day rates.

Continental seemed to better handle the downturn than other oil-and-gas firms, too, making drastic cuts in response to falling crude prices. In October 2008, the rig count was slashed to just four from 32. Also, many companies took on significant debt when crude was riding high and got hit later when prices came down. While CLR may owe $500 million, it doesn’t come due for quite some time. And Cramer said it would be easy enough to roll over.

A significant amount of Continental’s reserves and production – two-thirds and three-quarters, respectively – is crude oil, and the production part isn’t hedged. So as the price per barrel continues to increase, CLR benefits. Cramer also liked the company’s exposure to the Bakken Shale, in North Dakota and Minnesota, and he expects the drilling there to pick up, keeping the company cash flow positive.

There also is the possibility, with the share price so low, that a potential suitor could scoop up Continental, especially with the Bakken assets. CLR owns about 1,000 drilling locations holding roughly 362 million barrels of oil equivalent of potential reserves, which are twice the booked reserves.

Another selling point is the potential for two-thirds of Continental’s Bakken acreage to lie over two separate pockets of rock and resources called the Middle Bakken Shale and the Three Forks Formation. If these two pockets turn out to be separate zones, Cramer said, it will boost the company’s reserve potential, making it a more attractive takeover target.

“The time to buy these exploration and production shale plays is when they’ve been left for dead, when no one cares about them,” Cramer said, which is why he thinks CLR is a buy.

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