Hedging in a Low Price Environment Does it Make Sense Now? Louisiana Energy Conference June 2, 2016 Sean Levine, Director Research and Product Development Energy Capital Research Group
Addressing the Question Our Panelists! Grant Brady Morgan Stanley Commodities!! Managing Director of Risk Management team!! Advises producers, consumers, refiners; also RBL perspective!! Rick Couvillon, Jr. ConocoPhillips Gas & Power!! Director of Origination for Energy Services!! Works with industrial end-users, private E&Ps in oil/gas sales, hedging!! Parker Drew Tulane University!! Adjunct Professor at Freeman School of Business, commodities consultant!! 20 years as natural gas derivatives trader with Merrill, Morgan Stanley!! Joe LeBlanc PerPetro Energy!! Co-Founder & CFO of private, shallow water GOM legacy-asset focused E&P!! Directed Tulane s Masters of Energy program, hedging & trading at Energy Partners, Shell!! Mark Rossano Candlewood Investment Group!! Analyst & Strategist targeting alpha-generating commodity, equity & credit opportunities!! Tracks hydrocarbon from wellhead to end-use, coverage includes NGLs & condensate!! Sean Levine Energy Capital Research Group!! Co-Founder, Director of Research & Product Development!! ECRG tracks near-term commodity price moves & upstream liquidity, solvency dynamics! 2
Primary Reasons to Hedge! Support a Particular Price View!!! Lock in Economics/Returns!!! Necessary to Obtain Financing or to Enhance Financing Capabilities! 3
Energy Hedging Life Cycle Upset about Hedges Hedged Still Upset Upset about Hedges Happy w/hedges Hedge More Wished Hedged More 4
WTI Rebounded but Strip Flat 125 110 NYMEX WTI Forward Curve as of 2/24/12 Forward Curve as of 6/28/12 Forward Curve as of 9/6/13 Forward Curve as of 6/20/14 Forward Curve as of 3/17/15 Forward Curve as of 8/24/15 Forward Curve as of 2/11/16 Forward Curve as of 5/27/16 95 80 65 50 35 20 2012 2013 2014 2015 2016 2017 2018 Source: Morgan Stanley 5
Nat. Gas Back to 2012, Only Flatter 7 6 NYMEX Henry Hub Natural Gas Forward Curve as of 4/9/12 Forward Curve as of 4/19/13 Forward Curve as of 2/19/14 Forward Curve as of 11/20/14 Forward Curve as of 5/14/15 Forward Curve as of 12/17/15 Forward Curve as of 3/3/16 Forward Curve as of 5/27/16 5 4 3 2 1 2012 2013 2014 2015 2016 2017 2018 Source: Morgan Stanley 6
Futures Not Best Predictor of L/T Price 7
Shale Breakevens Mostly In the Money $70 $60 $50 $40 $30 $20 $10 $0 Wolfcamp - Reeves (TX) Bone Spring - Ward (TX) Eagle Ford - DeWiF (TX) Wolfcamp - Loving (TX) WolHone - Reeves (TX) Bone Spring - Loving (TX) Bakken - McKenzie (Mandaree) Spraberry - Howard (TX) Bakken - McKenzie (Hawkeye) WolHone - Play Average Spraberry - MarSn (TX) Source: Bloomberg Intelligence Bakken - Mountrail (South New Town Penninsula) Bone Spring - Play Average Bakken - Dunn (Skunk Creek Bay) Eagle Ford - Karnes (TX) Spraberry - Midland (TX) Bone Spring - Eddy (NM) Wolfcamp - Ward (TX) Bone Spring - Lea (NM) Bakken - Dunn (LiFle Missouri State Park) Bakken - Mountrail (Belden Township) Spraberry - Glasscock (TX) Spraberry - Play Average Eagle Ford - Gonzales (TX) Spraberry - Upton (TX) Spraberry - Andrews (TX) Bakken - Play Average Bakken - Mountrail (Missouri River Antelope) Eagle Ford - Play Average Bakken - McKenzie (Wa[ord) Wolfcamp - Play Average Bakken - Williams (Lewis and Clark State Park) Bakken - Dunn (NW Dunn) Bakken - Mountrail (Pershall) Eagle Ford - Live Oak (TX) Eagle Ford - Zavala (TX) Bakken - Williams (Williston) Bakken - Mountrail (Manitou) Eagle Ford - LaSalle (TX) Bakken - McKenzie (Alexander) Eagle Ford - Atascosa (TX) Eagle Ford - McMullen (TX) Eagle Ford - Lavaca (TX) Spraberry - Irion (TX) Wolfcamp - Reagan (TX) Bakken - Williams (McGreggor) Bakken - Williams (Alamo) Spraberry - Reagan (TX) Wolfcamp - Irion (TX) Bakken - Dunn (Manning) Eagle Ford - Dimmit (TX) Bakken Eagle Ford Spraberry Wolfcamp Bone Spring WolHone 8
E&P Hedging Evolution: 1Q15 1Q16 E&P 2016-2017 Oil & Natural Gas Avg. Hedge % by Reporting Period E&Ps Sharpened Focused on Cal16 Oil in Q1 Gas Hedging Continues to Move Towards 2017 50% 45% 40% 40% 46% 50% 45% 40% 41% 43% 35% 35% 30% 26% 30% 28% 25% 21% 25% 22% 21% 20% 15% 16% 11% 16% 20% 15% 14% 10% 5% 2% 3% 5% 10% 5% 7% 1% 2% 6% 0% 1Q15 2Q15 3Q15 4Q15 1Q16 1Q15 2Q15 3Q15 4Q15 1Q16 0% 1Q15 2Q15 3Q15 4Q15 1Q16 1Q15 2Q15 3Q15 4Q15 1Q16 2016 Oil 2017 Oil 2016 Natural Gas 2017 Natural Gas Source: Morgan Stanley 9
Most Common Hedge Structures! 1. Put Very costly, full protection, full upside, no credit needs!! 2. Put Spread Less costly, less protection, full upside, no credit needs!! 3. Swap no upfront cost, full protection, no upside, lots of credit needed!! 4. Producer Three-Way (put spread and sell call) less costly, less protection, less upside, some credit needed!! 5. Bourbon Street Three-Way (Put and sell call spread) medium cost, full protection, most upside, little credit needed! 10
Variant Approaches Distressed Hedging Techniques! 1. Sell calls in later years to get higher swaps this year!! 2. Sell below market swaps to finance other hedging products (may not be allowed anymore)! Alternative Structures/ Techniques! 1. Imbedded derivatives in physical marketing contracts (less credit and perhaps built into the physical marketing price)!! 2. Dynamic hedging vs. static hedging! 11
Parsley Energy On-Point With Put Spreads 12
Parsley Energy Rolling Down Put Spreads 13
Three-Way Collars 14
Pioneer Natural Resources Hedge Book Dominated by Three-Way Collars 15
Pioneer Natural Resources Gas Hedges 16
Cal 17 WTI Skew NYMEX WTI Cal17 Implied Volatility by Delta 46% NYMEX WTI Cal17 44% 42% 40% 38% 36% 34% 32% 30% 10D Put 20D Put 25D Put 30D Put 35D Put 40D Put 45D Put ATM 45D Call 40D Call 35D Call 30D Call 25D Call 20D Call 10D Call Source: Morgan Stanley 17
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