The hacienda hedge

[Soon2Bgreat]

When you are the producer, buying puts is called insurance, aka cost of business. They didn't really lose in those years, because oil price stayed high, thus their profits from oil stayed high too.

The premium loss is absolute, they definitely paid that and lost it. Whether it's justified is a different question and we cannot say with certainty.

It is possible they lost the premium and saw declines in oil revenue. In fact, given the low delta, it's likely to have occurred any year oil went down in price that wasn't 2008, 2014, and 2015.

 

[OddTrader]

From 2001-2017 they've earned $2.4B. They made $5.1 in 2009, $6.4 in 2015, and $2.7 in 2016. That means they basically lost $.9B in each of the other years. Oil crashed in 2008, 2014, and 2015.

Looks to me like they systematically buy ~$1B of puts each year, and in the past that's worked out to very low delta options (~50% of spot price). They probably "make" multiples of that $1B spend given it lowers their interest rate by 30bps...they probably get the cheapest hedge they can get away with.

It's not to discount their earnings. They've made about $2.4B more than me trading oil but this strikes me as a straightforward systematic hedge. Which makes sense, since they're in the business of hedging against a crash and not trading oil.

Perhaps buying the ~1B puts yearly can be a good hedge. But they still need to buy the puts at the right timing. Isn't it? I don't know.

 

[OddTrader]

"its hedges raked in $14.1 billion in gains and paid out $11.7 billion in fees to banks and brokers."

OK, now we know who the real profitmaker is. Also, we can stop complaining about brokers' fees....

If Mexico made huge on puts, someone also had to honor those puts and lose big. Apparently it wasn't the banks. Maybe the banks convinced some HFs to sell those puts...

It's very unclear. Was it actually buying $11.7B puts, returning (14.1+11.7)B for a gain of 14.1B?

 

[Pekelo]

The premium loss is absolute, they definitely paid that and lost it. Whether it's justified is a different question and we cannot say with certainty.

It is a producer's hedge, of course it is justified, if well done. Let's say Mexico's production cost is $30 per barrel. Oil is at $70. They buy the 65 puts, (or whichever is economic to buy) and they lock in a sure 35 bucks per barrel profit. The cost is maybe 2-3 bucks per barrel, they have a built in 35 bucks to pay for it, so their insurance cost is less than 10%. If oil goes up, even better.

This one doesn't show Mexico, but gives an idea of cost per barrel:

http://graphics.wsj.com/oil-barrel-breakdown/

 

[Pekelo]

It's very unclear. Was it actually buying $11.7B puts, returning (14.1+11.7)B for a gain of 14.1B?

They were annually spending 1.2 billion or so on puts. In that particular year it brought back 5 billions. In some year it was a loss, but oil prices stayed high so the oil production paid for that cost.

Since these were big, off the book deals, it was probably not easy to find counter parties for the deal, thus the big commission fee. My guess is that HFs sold those puts (like Karen the Supertrader selling far OTM puts ) and most of the time they earned the pennies, and once in a decade they lost the big dollars. Some of the banks might haver taken the risk too, but according to the article, they made out like bandits, so they were most likely just the broker of the deal...

 

[TraDaToR]

"its hedges raked in $14.1 billion in gains and paid out $11.7 billion in fees to banks and brokers."

Not sure, but I think the 11.7 B$ in fees include premii paid. I imagine Mexico made for example 14.1 B$ in profits, lost 10 B$ in premii in bad years and paid 1.7B $ in commissions to banks and brokers.

 

[Pekelo]

They are only hedging about 100 days of production, so not the whole year's. The most they did was 435 mil barrels, nowadays they only do 250 mil, and their daily production is around 2.5 mil. Looks like they only hedge what they exporting...

 

[sle]

Not sure, but I think the 11.7 B$ in fees include premii paid. I imagine Mexico made for example 14.1 B$ in profits, lost 10 B$ in premii in bad years and paid 1.7B $ in commissions to banks and brokers.

How do they separate "fees" from the cost of an OTC structure? The whole article is full of journalistic bullshit, meh.

 

[OddTrader]

They are only hedging about 100 days of production, so not the whole year's. The most they did was 435 mil barrels, nowadays they only do 250 mil, and their daily production is around 2.5 mil. Looks like they only hedge what they exporting...

1. Why only do hedging for (the next) 100 days production, when they can see the next year's trend is upwards which is evaluated fundamentally sound? That means the future prices will be higher on the 120th-day, further higher on 240th-day, and finally the highest on the 360th day. Buying every with a 120 days cycle 3 times covering 360 days would be much more expensive. Right?

2. Why would they hedge only the export value as a producer's policy? Isn't most producers hedge their whole production, subject to a hedge ration they prefer? Are you implying a grains farmer selling mainly to a local wholesaler, without exporting, does not need any hedge? I doubt it.

 

[OddTrader]

How do they separate "fees" from the cost of an OTC structure? The whole article is full of journalistic bullshit, meh.

My view is the article cannot cover all actual operational and financial figures, as usual. Simply due to commercial confidential data.

Most likely there should be an expensive cost for buying swaps during upward price trend.? Just my guess. Awaiting comments from commercial professionals.