Watch for falling hedges.
While Henry Hub gas has grown, from about $3.60 in early November for December delivery, past $5 for March delivery, hedging may not be much of an option as futures remain lower than the current contract.
“Despite anticipated exports and increased use for power generation, we’re looking at a much different curve,” says Sylvia Barnes, managing director and group head, oil and gas, for KeyBanc Capital Markets Inc. “It means we are getting crushed and this is serious.”
With KeyBanc colleagues, Barnes presented a markets update Feb. 6 to industry members in Houston preceding the NAPE Expo conference. On Feb. 7, the March 2015 contract was $4.59; March 2016, $4.29; March 2017, $4.28.
As for WTI, its price is roughly that of a year ago, she notes, “but look at this curve.” On Feb. 7, WTI for March delivery was priced at $100. For delivery in March 2015, the contract was $90; for March 2016, $84; for March 2017, $81.
“Again, we’re getting absolutely crushed.”
For oil and gas producers, “it may be very reasonable to anticipate that this $10 per barrel (one-year) shift in the market is going to affect transaction valuations, debt capacity and investor appetite.”
What to do? “We’re supportive on the near term, natural-gas side but it’s going to be really hard to stomach hedging beyond 2014 on the oil side. So what’s our advice to producers? Be nimble."
“Be ready to move quickly if there is any change in the market.”
Meanwhile, debt and equity investments are flowing to producers, says Randy Paine, KeyBanc Capital Markets president, and indications are that they will remain open. The U.S. economy is growing, interest rates are low and a great deal of financial risk has been removed by the Frank-Dodd Act, he notes.
Actually, more money is flowing to oil and gas producers than in 2007, when WTI was marching to about $100 by year-end and gas to about $8. “So these factors — a growing economy, a low interest rate environment and a recovered financial system — are producing record levels of capital-markets activity,” he says.
For example, high-yield issuances in 2013 were 2.7 times that of 2007. Among these, issuances to the oil and gas sector were 3.5 times greater in 2013. Syndicated-loan commitments to oil and gas producers were about the same in each year. Oil and gas IPO raises were 2.8 times greater in 2013; follow-on and convertible notes offerings were 1.5 times more.
“And I think it will continue,” he says. “(But) some people might say, ‘We are entering a new bubble. I wouldn’t have thought we would be well beyond where we were in 2007. Are you concerned about that?’
“My answer is ‘No. I’m not.’”
Financial institutions “have the strongest capital positions than they’ve had at any time. The regulations have taken a lot of risk out of the industry … Banks are not holding that risk the way they did in 2007.
“I would like to see more economic growth, but the automotive industry is strong, the housing market is strong, the banking industry is strong and we’ve got this renaissance in our energy industry that is just amazing.”
The industry itself is contributing to the improving U.S. economy, he adds, creating “tremendous ancillary benefits in infrastructure and processing … The capital markets are going to be there for your industry to support good projects and assure you will be able to continue to exploit these tremendous resources.”
He concludes, “I don’t feel like there is any risk of us falling back into recession.”