Hindsight is a beautiful thing. With it, we become brilliant analysts with all the answers. Were we that good, we’d be retired traders worth billions of dollars. But here we are. At any given time, we make the best decisions and projections of the future with the data we have but the best leaders are able to see incorporate new data and change the strategy without worrying about looking silly. I’ll use an example to highlight the uncertainty of projections using the most interesting narrative I heard yesterday.

The timeline of the outbreak of coronavirus in Italy and before that, in China, projects that we will see the peak pandemic in the Great Britain, Spain and California/ Washington/ New York in 9 days. Based on that, one must assess the probability, evaluate the response, the impact on the market, the government reaction, the pace of recovery in China and gauge what will happen. We will come back to this example in 2 weeks, and we will see who was right. Chances are, that will translate to someone having made money because that’s what it’s all about.

With that in mind, let’s talk hedging strategy and hindsight. Here’s an article from January 12 that covers the hedges put in place by Oxy in July 2019 that, while reading on March 10th, makes you make that face with the teeth and the pulled back cheeks. Now, if you can you find me the person in the world in July 2019 that predicted the coronavirus would reduce world demand instantaneously down 5 mmbo/d in February 2020 and simultaneously have Russia respond to U.S. sanctions on Rosneft AND have Saudi Arabia want to test the market for “more barrels” as a punishment to Iraq and Nigeria for cheating and Russia for not bending the knee…. then I will give them a cookie. But that is exactly what happened.

First question, knowing all you know, what is the probability in 100 chances, that this was the outcome? Is it insurable? By definition a black swan is a remote, unexpected event, so I suggest what happened was 1/100.

Second, do we agree that CEOs are paid to take risk adjusted positions to make alpha? Let’s look at the acquisition of Anadarko. Given the hedges that were put in place, was the acquisition of Anadarko downside protected? Against 99/100 odds, probably. Here’s an interesting fact about Hedging strategies- the companies that didn’t hedge any 2020 volumes: COP. CLR. APA. And CVX… the other suitor. The other one with no hedges is CDEV (credit to the BRV twitter account).

What ever the probabilities, here we are. And it’s now the 1 in 100 path. On March 6th and 7th, the oil and gas world changed and so too must strategy. Leaders react. Yesterday, Oxy cut the dividend to 11c per share per quarter from 79c (the first of what I expect will be many, but also most necessary). They also cut capital 40%. That was the right decision in light of the new data. We will see how it works out, and Ms. Hollub will own it, but the only mistake would have been to stay the course.

For the other management teams and boards who are still grinding on the data and wondering: “what are we to do?”, companies like Diamondback and Mr. Stice are leading the way, rumored to have cut frac crews to 0 today. Others, like Marathon, have changed their program and cut 30% of their capital for the remainder of the year. I say well done and good start.

To me, here’s how I interpret the data and the required course:

1. If a completion costs $4-5 million dollars and has a payout of 24+ months at the current strip, you are better to keep the cash and buy back debt immediately (most likely at a discount to face value).
2. If I am only hedged to 60% of my production, I would be finding ways to reduce production by 40% because selling barrels at $34 when I need $50 to get a return makes no sense to me.
3. If I see that the marginal cost of a barrel in Russia is $42/bbl, I expect oil has to go up (not to mention it needs to make my PUDs worth anything and my debt is priority number 1 to save the equity) so I would look to monetize my hedge book to buy back my debt at a discount (unless I didn’t control operations like a mineral company).

But, I’m not the CEO of any of these companies, and the choices they make will determine the direction of their company and of our industry. Lots of things are clear in hindsight, and unfortunately, that’s not the time frame in which you get to make and hedge your bets.