Wednesday, August 17, 2022

U.S. Shale Faces More Than $10 Billion In Hedging Losses

Editor OilPrice.com
Tue, August 16, 2022

U.S. shale oil producers are in line to suffer more than $10 billion in derivative hedging losses this year if oil prices remain around $100 per barrel, Rystad Energy research shows. Many shale operators offset their risk exposure through derivative hedging, helping them to raise capital for operations more efficiently. Those who hedged at lower prices last year are in line to suffer significant associated losses as their contracts mean they cannot capitalize on sky-high prices.

Despite these hedging losses, record-high cash flow and net income have been widely reported by US onshore exploration and production (E&P) companies this earnings season. These operators are now adapting their strategies and negotiating contracts for the second half of 2022 and 2023 based on current high prices, so if oil prices fall next year, these agile E&Ps will be able to capitalize and will likely boast even stronger financials.

Anticipating the significant negative impact of these hedges, shale operators made a concerted effort in the first half of this year to lower their exposure and limit the impact on their balance sheets.

Many operators have successfully negotiated higher ceilings for 2023 contracts and based on current reported hedging activity for next year, even at a crude price of $100 per barrel, losses would total just $3 billion, a significant drop from this year. At $85 per barrel, hedged losses would total $1.5 billion; if it fell further to $65, hedging activity would be a net earner for operators.

E&Ps typically employ derivative hedging to limit cash flow risks and secure funding for operations. However, commodity derivative hedging is not the only risk management strategy operators use. Rystad Energy’s analysis looked at a peer group of 28 US light tight oil (LTO) producers, whose collective guided 2022 oil production accounts for close to 40% of the expected US shale total. Of this group, 21 operators have detailed their 2022 hedging positions as of August. The group includes all public hedging activity in the sector as supermajors do not employ derivative hedging as a funding strategy, and private operators do not disclose their hedges publicly.

“With huge losses on the table, operators have been frantically adapting their hedging strategies to minimize losses this year and next. As a result, we may not have seen peak cash flow in the industry yet, which is hard to believe given the soaring financials reported in recent weeks,” says Rystad Energy vice president Alisa Lukash.


Operators currently have 42% of their total guided and estimated oil output for 2022 hedged at a West Texas Intermediate (WTI) average floor of $55 per barrel. Overall, producers have hedged 46% of their expected crude oil output for the year. In the second quarter, companies reported an average negative hedging impact of $21 per barrel on their realized crude prices – the value they receive for production minus any negative hedging impact.

For some operators like Chesapeake Energy and Laredo Petroleum, the impact has been higher, at above $35 per barrel. Fewer companies reported any significant effect on their derivatives contracts in the latest quarter compared to the previous three months. Still, an analysis of the difference in the hedging impact on realized prices per operator between the first and the second quarter shows that in most cases, second-quarter losses were stronger by $4 per barrel on average.


The U.S. onshore oil and gas industry’s hedging strategy has been closely tracked as a critical barometer for cash flows, particularly given the sharp price volatility over the past few years, allowing investors and lenders to make funding calls. Operators have already increased the cover for their expected oil volumes in 2023 to 17%, with many targeting 20% to 40% of output to be secured with derivatives. Significantly, 2023 contracts would limit hedging losses at $100 per barrel WTI to only $3 billion compared to $10.2 billion in 2022.




The analysis includes all contracts, with full or partial floor protection: swaps, collars and three-way collars. Collected contracts reference different price strips: WTI Nymex, WTI Midland, WTI Houston and Brent. We have converted everything to a Nymex WTI equivalent, assuming a spread of $0.30 per barrel for WTI Midland, $0.70 for WTI Houston and $2.50 for Brent.

By Rystad Energy

No comments:

Post a Comment