U.S. producers have decreased their exposure to natural gas prices and boosted it for oil heading into 2021, which could have a significant impact on the bottom line, according to Raymond James & Associates Inc.

Analyst John Freeman said in a note Monday the exploration and production (E&P) companies covered by Raymond James had hedged 53% of their gas volumes and 43% of their oil, “with the average oil swap price falling precipitously against a nice bump in the average natural gas swap price.”

“The average E&P has roughly 50% or less of their commodity exposure hedged for next year so oil and gas prices will continue to have a significant impact on the bottom line for most companies,” Freeman wrote.

Hedging gas and oil prices traditionally is a way to limit downside from commodity price crashes, he noted. The benefits were clear this year as names that had “significantly hedged” saw their free cash flow grow from 2019. The sharp budget cuts, down by around half from 2019, “more than made up for revenue declines from lower volumes.”

[Plan for natural gas pricing 10 years out with NGI’s Forward Look – forward curve data.]

Hedges often are also used to capture upside. That’s been more common in 2020 as E&Ps have a “bullish 2021 gas strip to lock-in higher prices for oft-forgotten natural gas while actually hedging a smaller percentage of the coming year’s oil volumes…”

The Raymond James team identified three key themes. One, the average E&P had hedged 43% of the analyst firm’s estimated 2021 oil volumes at depressed prices, which was a sizable boost from the 8% of volumes that were hedged last March. 

Second, “natural gas hedge books are nearly doubled in size since last year,” Freeman said. Finally, smaller capitalized (cap) operators hedged more production than the large-caps.

Taking the lessons from 2020, “things can always get worse (although we don’t think they will), so we are glad companies have taken additional steps after the downturn to protect 2021 cash flows,” he said.

Still, not all of the operators are hedging. Notably, Apache Corp., EOG Resources Inc. and Continental Resources Inc. are among the U.S. E&Ps that are “choosing to let it ride on black (crude) next year with the hope that the swings of the oil market doesn’t put them in the red.”

These E&Ps have consistently not hedged, he noted.

E&Ps are more hedged on gas in 2020, a sharp contrast to March, with 26% more hedged.

The gas hedge books have nearly doubled to 53% of 2021 volumes compared with 27% of 2020 estimated output, Freeman wrote.

“Behind this reversal is a desire to lock-in the bullish 2021 natural gas strip (above $3/MMBtu average)…”

Because of the bullish gas strip, the average swap price, which makes up 75% of gas hedging instruments, has increased 10% from 2020 to $2.60/MMBtu in 2021, Freeman noted. E&Ps with the most hedged gas work in Appalachia. 

Small-to-mid-cap E&Ps “have almost double the hedges, on a percentage of production basis, for oil and a nice 7% more for gas,” Freeman wrote. “Their decision to accept vastly lower oil prices next year is driven by a combination of higher leverage profiles, more restrictive covenants…as well as higher base declines, which result in higher break-even oil prices relative to their large-cap peers.”