Photographer: Brittany Sowacke/Bloomberg

Shale Drillers Face an Uncertain 2018 With Most Hedges Expiring

Updated on
  • Many contracts expire by 2018, Wood Mackenzie says in report
  • Hedging surged by a third in late 2016, most in a year

A surge in hedging contracts is helping U.S. shale drillers ride out the turmoil in global oil markets this year. Next year may not be so easy.

As of March, the biggest explorers had hedged 28 percent of this year’s production, according to Warren Russell and Michael Cohen of Barclays Plc. Those contracts, which lock in future payments, are expected to help U.S. output reach a “multi-decade high by December, within sights of the all-time high reached in 1970," the analysts wrote in a note to clients.

There are no guarantees for 2018, however, when most of the hedges expire. The falling price of crude, which has dropped 10 percent since the start of the year, is taking its toll, according to Francisco Blanch, head of commodities research at Bank of America Corp. in New York.

"There was a lot of hedging when prices were between $50 and $55," Blanch said in a telephone interview on Tuesday. "Now that it’s trading under $50, not many people are rushing to hedge.”

West Texas Intermediate crude for May delivery rose 23 cents to $48.60 a barrel on the New York Mercantile Exchange at 10:10 a.m., on reports that Libya had curbed shipments from its biggest oilfield. Still, oil has given back all of its gains since an OPEC-led deal last year to trim production. The rally faltered as the cuts failed to quickly dissipate crude stockpiles and rig counts rose in the U.S.

“Oil futures prices must recover before producers can lock in prices over $55 a barrel for next year, which is what we think is needed" to fund significant new growth, Andy McConn, a Houston-based analyst at Wood Mackenzie Ltd, said in a research report released Monday.

‘Remarkable’ Surge

Last year’s surge in hedging was “remarkable," said Roy Martin, another Wood Mackenzie analyst, in a telephone interview. Historically, shale companies have locked in payments for no more than 30 percent of their output each year; they’re already close to that level and could blow past it if oil prices recover, he said, assuring a steady stream of income that would help boost supplies more.

“It definitely isn’t the best news if you’re OPEC or long on oil prices," Martin said.

With oil faltering, OPEC and other major producers have discussed extending production cuts into the second half of the year. A final decision is expected in May. If the group goes ahead, prices should rise and shale companies will add more hedges, Martin said. If there’s no deal, “there’s going to be a lot of people kicking themselves that they didn’t hedge more when they had the chance."

‘Constructive’ View

Newfield Exploration Co., which concentrates on Oklahoma shale, has signed contracts for about a third of its production this year but has few hedges for 2018, Chief Executive Officer Lee Boothby told Bloomberg TV in an interview at the Scotia Howard Weil Energy Conference in New Orleans. It’s a sign of the company’s “constructive" view about future prices, he said.

Newfield CEO Boothby Says ’Not Stressed’ by Current Prices

Source: Bloomberg

Parsley Energy Inc., on the other hand, has locked in payments for about half of its 2018 production, CEO Bryan Sheffield said in an interview Tuesday at the conference. The company is already adding contracts for 2019 at about $50 a barrel, he said in a Bloomberg TV interview.

U.S. drillers added hedging contracts for 648,000 barrels of crude in 2016’s final quarter, the biggest increase in more than a year, according to the Wood Mackenzie report, which tracked 33 of the biggest shale producers. The agreements locked in payments as high as $60 a barrel this year, and mean output is likely to continue growing even as the threat of more U.S. supplies has pushed prices back below $50.

The volume of new hedges rose by 33 percent from 2016’s third quarter to the fourth, when OPEC, Russia and other major exporters agreed to slash supplies to try to prop up prices. Among U.S. companies, Apache Corp. and Anadarko Petroleum Corp. added the most hedges, accounting for 28 percent of new volumes, the report found.

Those hedges will help companies “plug any budget deficits" caused by the fall in prices and could “worsen the U.S. supply glut," McConn said in Wood Mackenzie’s report.

— With assistance by Alix Steel, and Mark Shenk

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