U.S. natural gas producers hedged most of their 2022 output before prices began to soar, setting the sector up for a slew of one-time losses on the wrong-way bets, according to Rystad Energy.

Henry Hub Prices

When exploration and production (E&P) companies hedge their gas production, they typically take an opposite position in the forecast price. However, increasing demand, particularly overseas, has sent gas prices sharply higher, and the outlook continues to look better than expected heading into 2022.

Rystad analyzed a peer group of Lower 48 gas-focused E&Ps, which together account for about 35% of  unconventional gas production and about 53% of the overall shale gas output.

The E&Ps already had hedged “more than half of their 2022 production by the time they reported their second quarter results, when prices were trading much lower than the currently inflated levels,” the Rystad researchers said. “By the end of September, as much as 64% of their projected production was hedged.”

The 11 E&Ps reviewed “stand to lose more than $5 billion in 2022 if the average Henry Hub price strip remains at $4.00/MMBtu — an amount that could double if Henry Hub prices average $5,” according to the researchers.

Pressuring Cash Flow

“Given that the whole strip for 2022 currently remains above $4.00/MMBtu – though a strong backwardation is present in the shape of the curve – the current state of the programs is likely to impose a material downward pressure on corporate cash flows of gas producers next year,” said Rystad’s Artem Abramov, head of Shale Research.

By comparison, the tight oil-focused E&Ps have tended to hedge less of their associated gas production than the peer group of publicly held gas producers, the researchers noted. The hedging profiles of the privately held, gas-focused E&Ps have varied widely, “but on average, they behave in line with the researched peer group.”

Gassy E&Ps that work in the conventional fields “tend to hedge only a limited share of their production. Still, some have a high percentage of fixed-price sales with deliveries to local markets.”

In terms of total volumes, the associated gas contracts for the tight oil-focused public E&Ps is about 50% lower than those of the gas-focused peer group, Rystad noted. The tight oil operators’ typical hedging floor, though, is “somewhat higher” based on their third quarter results. 

Private E&Ps, meanwhile, have “lower visibility,” but those working in the Haynesville Shale often hedge “well in advance, indicating low hedging floors.”

Individually, Coterra Energy Inc., the recently merged combination of Cimarex Energy Co. and Cabot Oil & Gas Corp., has up to 11% of its gas hedged for 2022, while CNX Resources Inc. has nearly 95% hedged, according to Rystad.

“However, Coterra and CNX are clear outliers, as the rest of the group’s share of hedged production is in a narrow 45-75% range,” researchers said. “The weighted-average floor price varies in the $2.50-3.10/MMBtu range in Henry Hub terms. At these prices, we anticipate a strong impact of the recent improvement in the Henry Hub strip on floor prices when operators report their full-year results.”

Some gas-focused E&PS have added hedges for 2022 following the recent material gains in the average floor price.

For example, Range Resources Corp. increased its average floor by 30 cents, while Chesapeake Energy Corp. raised its weighted-average floor by 20 cents, Rystad noted.

“The significant rise in hedged volume since the second quarter of 2021 is primarily driven by a handful of operators,” which include Chesapeake and Range, along with Southwestern Energy Co. and Comstock Resources Inc.

For context, the peer group reviewed is forecast to generate in 2022 around $48 billion in pre-hedged hydrocarbon gross sales before royalties, and about $21 billion of upstream cash from operations, before factoring in hedging losses. 

“Hedging losses at a $4.00/MMBtu strip will therefore be equivalent to more than 10% of the group’s pre-hedged revenue and account for more than 25% of cash from upstream operations,” said Rystad researchers. “If the Henry Hub price averages at $5.00/MMBtu next year, hedging losses for gas peers will be almost double – at $9.8 billion. These producers will need a Henry Hub price of $2.40 or lower to see material hedging gains of an amount greater than $1 billion.”