As the price of oil rises, heavily-hedged shale drillers may find it harder to meet investor demands for payback, boosting the value of producers that haven’t locked in returns for future production.
When West Texas Intermediate breached $60 a barrel, it was good news generally for US shale producers. But the higher the price, the less gain will come to companies that hedged their production as crude held below $55 for 10 months of the year.
At least 60% of next year’s crude output has been hedged, more than in previous years, according to RBC Capital Markets. The result: Rising crude prices will boost the profile of companies with fewer hedges, according to a report by Cowen & Co. Among the winners: EOG Resources Inc, Anadarko Petroleum Corp, and Continental Resources Inc, the note said.
“If crude were to move higher, we would expect to see more E&Ps lag as collar ceilings are reached,” Cowen analysts led by Charles Robertson wrote.
US shale producers often choose to hedge a portion of their production due to their capital constraints and short life cycles of their wells. With WTI up 34% in the last six months, many have increased their hedging to protect their cash flows against a downturn. Hedged volumes more than doubled in the third quarter, according to a study by Bloomberg New Energy Finance.
“It’s a directional bet on the future of the market,” said Peter Pulikkan, a Bloomberg Intelligence analyst who co-authored the report released on December 13. “Some of them believe, based on the fundamentals, that oil is still going to go higher.”
Representatives for EOG and Anadarko declined to comment. Kristin Thomas, a spokeswoman for Continental, did not immediately return phone and email messages seeking comment. But executives at the companies have taken a bullish tone in recent months. “We think US production hasn’t been growing quite as prolifically as what others have originally estimated,” Lance Terveen, a senior vice-president at Houston-based EOG, told analysts on an earnings call last month when asked about hedging. “We’ve been disciplined since 2015, and we’ve been waiting for this turn. So we’re going to continue to watch here going into 2018.”
Continental sees “a little bit more to run here for sure,” Harold Hamm, the explorer’s billionaire chief executive officer, said on a November 8 call. “We’ll keep a close eye on it and the opportunity, when it comes, well, we’re going to be there to take advantage of it.”
If prices rise, drillers that might lag the peer group include Concho Resources Inc, Lonestar Resources US Inc, Oasis Petroleum Inc and QEP Resources Inc, the Cowen report said. Requests for comment from these companies weren’t immediately returned.