Hedging: A note from Raymond James - March 9
Posted: Mon Mar 09, 2020 1:28 pm
Given the tremendous volatility we've seen in crude (already a ~$20 swing this year) and with the broader market making 1,000 point moves multiple times a week, we thought this would be an opportune moment to provide an update on E&P hedging. Hedging oil prices was designed for volatile times like these and has long been standard operating procedure for E&Ps. A well-developed hedging strategy allows for better planning and reduces risks to future cash flows. From the last time we updated hedges back in September, hedges have increased significantly with 53% of next year's oil volumes (was 27%) and 27% of 2020 gas volumes (was 15%) currently hedged.
In today's Energy Stat, we will take a detailed look at the hedging landscape across our E&P universe and focus on four key themes identified in our analysis: 1) The group has mitigated much of its exposure to changing 2020 oil prices, but is still highly exposed to the 2021 strip, 2) Gassier names are more highly hedged than oil names, 3) Small-caps have a higher preference for hedges than large-caps and 4) Three-way collars are nearing or have passed their sub-floor levels in many cases. Needless to say, the banking sector is not immune from the Covid-19 difficulties: specifically, the ultra-low interest rates and resulting compression in margins. In this context, we can imagine that some E&P investors are wondering if the banks can be relied upon to be secure hedging counterparties. Despite the rough headlines around the financial sector, it should be underscored that the current situation is very different from the global financial crisis of 2008-2009 – the last time that this issue was seriously raised. Banks on the whole are much better capitalized than they were 12 years ago, and it would be a far-fetched scenario for any of the major players to be unable to meet their hedging-related obligations.
Several of the Sweet 16 are mentioned in the RJ report. If you like to get the report send me an email: dmsteffens@comcast.net
Conclusion: As 2020 is rapidly proving to be the most challenged commodity market in years, hedges are going to be all the more
important. So far, our E&P coverage universe has hedged 53% of oil volumes and 27% of gas volumes. Thankfully this compares favorably to
2020 hedges when measured last September of about 27% of estimated oil volumes and ~15% of estimated gas volumes. Unfortunately, given
the violent downturn in commodities across the board and backwardation in crude futures, any new hedges added at this time would be like
trying to buy insurance during a hurricane. Given our bullish oil outlook next year, we actually favor those with less hedging in 2021. When parsing
particular names, it seems like the larger the company, the less oil has been hedged. Bottom line: it's all about weathering the bleak near-term
outlook until brighter days arrive next year.
In today's Energy Stat, we will take a detailed look at the hedging landscape across our E&P universe and focus on four key themes identified in our analysis: 1) The group has mitigated much of its exposure to changing 2020 oil prices, but is still highly exposed to the 2021 strip, 2) Gassier names are more highly hedged than oil names, 3) Small-caps have a higher preference for hedges than large-caps and 4) Three-way collars are nearing or have passed their sub-floor levels in many cases. Needless to say, the banking sector is not immune from the Covid-19 difficulties: specifically, the ultra-low interest rates and resulting compression in margins. In this context, we can imagine that some E&P investors are wondering if the banks can be relied upon to be secure hedging counterparties. Despite the rough headlines around the financial sector, it should be underscored that the current situation is very different from the global financial crisis of 2008-2009 – the last time that this issue was seriously raised. Banks on the whole are much better capitalized than they were 12 years ago, and it would be a far-fetched scenario for any of the major players to be unable to meet their hedging-related obligations.
Several of the Sweet 16 are mentioned in the RJ report. If you like to get the report send me an email: dmsteffens@comcast.net
Conclusion: As 2020 is rapidly proving to be the most challenged commodity market in years, hedges are going to be all the more
important. So far, our E&P coverage universe has hedged 53% of oil volumes and 27% of gas volumes. Thankfully this compares favorably to
2020 hedges when measured last September of about 27% of estimated oil volumes and ~15% of estimated gas volumes. Unfortunately, given
the violent downturn in commodities across the board and backwardation in crude futures, any new hedges added at this time would be like
trying to buy insurance during a hurricane. Given our bullish oil outlook next year, we actually favor those with less hedging in 2021. When parsing
particular names, it seems like the larger the company, the less oil has been hedged. Bottom line: it's all about weathering the bleak near-term
outlook until brighter days arrive next year.