Continental Resources (CLR), the pioneering U.S. driller that bet big on North Dakota's Bakken shale patch when its rivals were looking abroad, is once again flying in the face of convention: cashing out some $4 billion worth of hedges in a huge gamble that oil prices will rebound.
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Late on Tuesday, the company run by Harold Hamm, the Oklahoma wildcatter who once sued OPEC, said it had opted to take profits on more than 31 million barrels worth of U.S. and Brent crude oil hedges for 2015 and 2016, plus as much as 8 million barrels' worth of outstanding positions over the rest of 2014, netting a $433 million extra profit for the fourth quarter. Based on its third quarter production of about 128,000 barrels per day (bpd) of crude, its hedges for next year would have covered nearly two-thirds of its oil production.
A 30 percent slump in world oil prices since June has handed many oil drillers a potential windfall on their paper hedges - but most are holding onto those derivative deals as protection against a deeper drop in prices next year. Not Contintental.
"We view the recent downdraft in oil prices as unsustainable given the lack of fundamental change in supply and demand,” Hamm said. Lifting the hedges will allow Continental "to fully participate in what we anticipate will be an oil price recovery."
Continental said it had liquidated the hedges during October, a month in which Brent crude <LCOc1> fell from nearly $95 a barrel to a four-year low of $82.60 a barrel as oil traders realized that OPEC kingpin Saudi Arabia was in no rush to cut production and defend higher prices.
The company did not say at what point in the month it lifted the hedges, or at what price, but its profitability was clear. Based on the company's swaps trades and options floor prices, it put on the hedges at about $98 a barrel, according to Reuters calculations.
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Continental's earlier hedges for 2014 came in handy in the third quarter, when oil prices began their descent. It posted net revenues on derivative instruments of $474 million in the quarter, although including the previous two quarters it had a net gain of only $172 million for the nine months.
In a swap hedge, an oil producer typically sells short a derivatives position to lock in a specific price; as it sells physical oil at the going spot price, the producer buys swaps to close its short positions.
A collar options trade would guarantee a set price range, with a producer buying downside protection while selling a ceiling price in order to offset the cost of the option.
Continental wrote in its 10-Q filing: The written call options represent the ceiling positions remaining from the company's crude oil collar contracts. The floor positions of the collars were liquidated. For these written call options, the company is required to make a payment to the counterparty if the settlement price for any settlement period is above the ceiling price, and neither party is required to make a payment to the other party if the settlement price for any settlement period is below the ceiling price.
(Reporting by Jonathan Leff; Editing by Ken Wills)