Permian operators’ lofty production targets supported by strong hedging, IHS Markit says

7/25/2017

HOUSTON -- Oil-weighted exploration and production (E&P) companies operating in the prolific Permian basin have 65% of their oil production hedged at an average strike price of approximately $50/bbl. This supports their aggressive production targets for 2017, according to new analysis from IHS Markit.

The IHS Markit hedging analysis “Company Peer Group Analysis—Oil-weighted U.S. E&Ps: Permian operators’ lofty production targets supported by strong hedging,” evaluated the oil and gas hedging in place for a group of 18 oil-weighted U.S. E&Ps in the IHS Markit coverage universe, including a subgroup of 10 Permian basin-focused operators.

Overall, the IHS Markit analysis noted that the Permian-focused oil-weighted E&P peer group has hedged 65% of remaining 2017 oil production at a weighted-average implied price of $50/bbl, and 50% of remaining 2017 gas production hedged at $3/Mcf. This compares with just 19% of oil production and 29% of gas production hedged by the non-Permian E&P oil-weighted peer group in 2017, IHS Markit said.

The Permian-focused operators have locked in a substantially higher portion of production than their non-Permian counterparts, providing support for the group’s aggressive production-growth targets, according to the IHS Markit report.

“The different levels of hedging between the two oil-weighted subgroups of Permian versus non-Permian E&P operators is reflected in the wide disparity of their production growth targets, and the difference is striking,” said Paul O’Donnell, principal equity analyst at IHS Markit and author of the hedging analysis. “The median Permian E&P is expected to increase its production by 25% in 2017, as compared to those oil-weighted operators outside the Permian who have hedged just 19% of 2017 oil production and are anticipating a median decline of 1% in oil/liquids production. Consequently, we expect the Permian E&Ps will be less likely to downwardly revise 2017 spending plans and production targets in the upcoming second-quarter 2017 earnings announcements, compared with their non-Permian counterparts.”

Companies hedge their production to provide a level of protection against oil and gas price fluctuations, and during the period of volatile prices throughout most of 2015 and 2016, North American E&P companies benefited significantly from having large hedge books, O’Donnell said.

“In 2017, hedging is still important for these E&Ps, especially the more debt-laden companies, which are less likely to withstand sustained low prices or significant price fluctuations,” O’Donnell said. “The oil-weighted peer group increased its 2017 oil hedging from 22% to 34% since the time of our previous hedging study, based off of third-quarter 2016 data.”

Permian operators with the best downside protection if prices were to drop to $35/bbl include Concho Resources, Parsley Energy and Laredo Petroleum, who would all have hedged prices above $50/bbl in 2017 and 2018.

For 2018, the Permian E&Ps have already hedged 25% of oil production at $51/bbl and 9% of gas at $3/Mcf, while the non-Permian E&Ps are largely unhedged for oil, but also have 9% of their gas production hedged.

“At present, it would be a challenge for the Permian E&Ps to replicate their 2017 hedge positions in 2018, given the weakness in oil prices and the relatively flat futures curve,” O’Donnell said.

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