Hedging could embolden US producers to raise volumes after putting the brakes on drilling in recent weeks © Bloomberg
North American oil producers have pounced on the recent rise in crude prices to lock in sales at current levels, something that could safeguard prospective shale output in the face of a future downturn.
Bankers and brokers say hedging in the US and Canada has accelerated as West Texas Intermediate crude pushes above $50 a barrel, a break-even price for many shale oil companies.
“There’s been more producer-hedging in the past two weeks than in the past four or five months,” a banker said.
US crude prices this week climbed to a five-month high as petroleum demand booms, Opec curtails output and bloated inventories start to decline.
Hedging could embolden US producers to raise volumes after putting the brakes on drilling in recent weeks. A flurry of selling could also cap rallies.
Already, the rush to sell has affected futures prices. WTI for delivery in December 2019 now costs about a dollar less than the contract for delivery this December. A month ago it cost a dollar more.
Independent producers often hedge through swaps and options transactions with Wall Street banks. These banks then offset their exposure with futures and options at the New York Mercantile Exchange and Intercontinental Exchange commodities bourses.
The swap dealers’ net short, or selling, position in US crude oil totalled 473m barrels’ equivalent last week, the most since oil prices began to crash below $100 in mid-2014, according to data from the US Commodity Futures Trading Commission. It was 86m barrels more than at the end of August.
“A significant amount of producer hedging has been crossing the market,” said Michael Tran, director of energy strategy at RBC Capital Markets.
As of late August, a sample of 43 large and small US producers had hedged just 23 per cent of their 2018 output, or 680,000 barrels a day, but the indications are that this number has increased in September.
Pioneer Natural Resources, a leading producer in the Permian Basin of Texas and New Mexico, already had 89 per cent of its output hedged for 2017, according to Energy Aspects.
Tim Dove, Pioneer’s chief executive, told a conference on September 6 that the company had “been adding hedges. We now are at about 70 per cent hedged for 2018. Those hedges are struck, basically, with the idea in mind of protecting about $50, and at the same time, giving us upside to $55.”
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At the same conference, Richard Muncrief, chief executive of WPX Energy, said his company had already hedged a majority of its 2018 production at about $52 a barrel, and had “started to establish a position” to protect sales in 2019. The company has wells in Texas, New Mexico and North Dakota.
The trend appeared to continue this week, with “massive crude hedging” of nearly 17m barrels hitting the swaps market on Monday, according to United ICAP, an energy broker. Most swaps had maturities of more than a year.
Analysts said the forward sales may also have widened WTI’s discount to Brent crude, the North Sea benchmark, which on Monday settled up 3.8 per cent at a two-year high of $59.02. Its slipped towards $58 a barrel on Tuesday.
Still, all WTI futures prices this week were above $50 a barrel. Front-month WTI hit a five-month high of $52.43.
Producers’ hedging “is to be expected in a market where the price of oil has gone through 50 bucks”, said Scott Shelton of United ICAP. “It’s where they claim they can make money.”
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