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What's In an Oil Hedge?: Analyst Looks at Hedge Values for E&P Names (DNR) (GST) (OAS) (CRZO) (more...)

February 2, 2015 7:54 AM EST
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Sterne Agee analyst Tim Rezvan had an interesting note out to clients Monday discussing the hedge portfolios of Exploration & Production companies. The analyst looked at companies whose oil hedges are very much "in the money" and formally aggregated estimated values of hedge portfolios for companies they cover.

For the exercise, Rezvan and team used $50.50/b WTI and $52.50/b Brent for 2015 and $57.50/b WTI and $59.50/b Brent for 2016 as a proxy for strip pricing, with variations to each quarter reflecting WTI's contango. Then they aggregated the hedge values for 2015 and 2016. They did not change their natural gas assumption from their current $3.40/$3.70 per mcf estimates for 2015/2016. They also did not include any benefit from NGL hedges, which tend to be more sporadic.

Results showed that the values of hedge portfolios vary widely across the group. The gassy E&Ps were less likely to have as much value in their hedge portfolios, as a percentage of market cap. Among the oilier producers, Denbury Resources (NYSE: DNR) is far and above all others. At strip pricing, the company's hedge portfolio is worth $811 million, 33% of current market cap. Other standouts include: Gastar (NYSE: GST) (hedge book at $32 million, 22% of market cap), Oasis (NYSE: OAS) (hedge book at $215 million, 16% of market cap), Carrizo (Nasdaq: CRZO) (hedge book at $220 million, 11% of market cap), and Approach Resources (Nasdaq: AREX) (hedge book at $26 million, 10% of market cap).

Commenting on what to expect over the next three months, Rezvan said they expect rhetoric to continue ramping from operators on monetizing all/some hedges to raise cash. "The question will be if operators go naked on the hedge side in an outright bet on an oil price rebound, or if they simultaneously layer in costless collars around strip pricing," he said. "You could also see operators use proceeds to fund more attractive swaps above strip pricing in 2016 to preserve out-year Cash Flow. There are many possibilities, including partial monetizations, and the rational for the "why" is simple: E&Ps face an increasingly bleak near-term future and may need to consider unorthodox liquidity levers to raise cash to ride out the low oil price storm"

Rezvan further warned that monetizing hedges will impact credit facilities. "Recent conversations with management confirmed that hedges are baked into asset calculations tabulated by lending banks to determine the size of credit facilities. However, most banks generally bake only a percentage of the hedge portfolio value into the credit facility. So selling "in the money" hedges would not drive a one-for-one reduction in the credit facility. But it will drive some sort of reduction, likely on top of the typical sharp reductions we expect to see in 2H15, when banks conduct mid-year credit facility redeterminations based on the current low commodity price environment."

Below is a table showing aggregate value of the hedge portfolios of companies under Sterne Agee coverage:



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