The recent, dramatic decline in the price of oil illustrates the risk that every oil and gas producer has to declining energy commodity prices. This paper discusses various methods for “hedging” or reducing price risk. In particular, we discuss transactions and methods that enable a producer to transfer some or all of its price risk related to its oil and gas production to a party that is willing and able to take an opposite position and assume that price risk. Importantly, these hedge transactions mitigate an existing risk and are distinguished from speculative transactions under which a party assumes, rather than transfers, price risk related to a commodity in hopes that the future increase or decrease in its price will be in its favor and will result in trading profits. We will not discuss the use of over-the counter or exchange-traded transactions for speculating on oil and gas prices.

In this paper we address why oil and gas producers hedge and provide an overview of over-the-counter and exchange-traded transactions. We also include a summary of the regulations mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act that are relevant to producers.

Originally published for the University of Texas School of Law CLE.