FEATURE: Collars supplant swaps as US gas producers pay down debt, reach for upside

High natural gas prices over the past six months have given many producers the opportunity to use free cash flow to pay down debt, making room for a shift in hedging strategies to ones that provide more exposure to the upside. Some producers have eschewed swaps for collars, while others have decided to hedge less or not at all, executives said in the most recent round of earnings calls.

The move toward collars, which pairs a price ceiling with a price floor, suggests bullish sentiment in the market, as well as an expectation of possible volatility. The shift marks a contrast from the previous market preference for swaps, which are often pricier and provide more downside risk protection.

"If natural gas producers think there is a limited probability for upside price potential, they will typically go with swaps," Ogan Kose, managing director of global trading, investment and optimization at consultancy Accenture, said in an email to S&P Global Commodity Insights.

"In 'bear' markets where the downside risk is elevated, swaps take a preference as swaps provide maximum credit capacity per unit hedged – but at the cost of taking most upside off," Kose said.

Collars versus swaps

Producers that opted to lock in more collars for 2022 expected gas production included Range Resources, EQT and Coterra Energy.

"Having cut debt in half by the end of this year, our ability to be more opportunistic is enhanced," Range CFO Mark Scucchi said in a Feb. 23 earnings call.

Range has put in less swaps for 2022 production, Scucchi said, instead adding in collars "because we felt like the fundamentals and the data indicated that the skew was to the upside, and there was more upside on the table than the strip was indicating."

Appalachia producer EQT has also shifted its hedging to include more collars after a program of "nearly all swaps," which CFO David Khani described as having been a "defensive hedging strategy" in a Feb. 10 call.

The newly formed Coterra Energy -- formerly Cabot Oil & Gas and Cimarex -- has oriented its gas hedging program toward "wide collars," CFO Scott Schroeder said in the Feb. 24 call. But he emphasized that the company sees a "tremendous return profile" that doesn't "need a lot of hedging to underpin it."

Less hedging overall

Both oil and gas producers have reduced the volume hedged for 2022, compared to 2021, according to Nathan Hasbrook, an energy analyst with S&P Global.

Producers that sustained large losses because of rigid hedge positions may be wary of history repeating itself, especially amid bullish outlooks for pricing, Hasbrook said.

Some gas producers have walked away from hedging future production entirely, citing optimistic expectations for commodity prices that they feel are not being accurately reflected in forward curves.

Executives at Antero Resources said that the Appalachia producer has not put into place any new gas hedges since spring 2020, with around 50% of its 2022 production hedged and no essentially no hedges in place for 2023.

"We have the balance sheet now and a lot of opportunities to really pay down debt more quickly if we're just willing to stay on the front of the curve," Antero CEO Paul Rady said Feb. 17.

Other producers, like Southwestern Energy, told analysts that smaller hedging positions might be in the cards if the bubbly pricing environment continues.

"Going forward, assuming the current constructive commodity price outlook and as we progress our debt reduction, we would anticipate that our future hedging levels will moderate within the company's established framework," Southwestern CFO Carl Fredrick Giesler said Feb. 25.