Hess 2014 Annual Report Download - page 59

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Item 7A. Quantitative and Qualitative Disclosures About Market Risk
As discussed in Note 21, Financial Risk Management and Trading Activities, in the Notes to the Consolidated Financial
Statements, the Corporation is exposed in the normal course of its business to commodity risks related to changes in the prices of
crude oil and natural gas as well as changes in interest rates and foreign currency values. In the disclosures that follow, financial
risk management activities refer to the mitigation of these risks through hedging activities. The Corporation is also exposed to
commodity price risks primarily related to crude oil, natural gas, refined petroleum products and electricity, as well as foreign
currency values, from its 50% voting interest in a consolidated energy trading joint venture, HETCO, which was sold in the
first quarter of 2015.
In conjunction with the Corporation’s sale of its energy marketing business in the fourth quarter of 2013, certain derivative
contracts, including new transactions following the closing date, (the “delayed transfer derivative contracts”) were not transferred
to the acquirer, Direct Energy, a North American subsidiary of Centrica plc (Centrica), as required customer or regulatory
consents had not been obtained. However, the agreement entered into between Hess and Direct Energy on the closing date
transferred all economic risks and rewards of the energy marketing business, including the ownership of the delayed transfer
derivative contracts, to Direct Energy. The transfer of these remaining contracts was completed during the third quarter of 2014.
Controls: The Corporation maintains a control environment under the direction of its chief risk officer and through its
corporate risk policy, which the Corporation’s senior management has approved. Controls include volumetric, term and value at
risk limits. The chief risk officer must approve the trading of new instruments or commodities. Risk limits are monitored and are
reported on a daily basis to business units and senior management. The Corporation’s financial risk management department also
performs independent price verifications (IPV’s) of sources of fair values and validations of valuation models. These controls
apply to all of the Corporation’s financial risk management and trading activities, including the consolidated trading joint venture.
The Corporation’s treasury department is responsible for administering and monitoring foreign exchange rate and interest rate
hedging programs using similar controls and processes, where applicable.
Value at Risk: The Corporation uses value at risk to monitor and control commodity risk within its financial risk management
and trading activities. The value at risk model uses historical simulation and the results represent the potential loss in fair value
over one day at a 95% confidence level. The model captures both first and second order sensitivities for options. Results may
vary from time to time as strategies change in trading activities or hedging levels change in financial risk management activities.
Instruments: The Corporation primarily uses forward commodity contracts, foreign exchange forward contracts, futures,
swaps, options and energy commodity based securities in its financial risk management and trading activities. These contracts are
generally widely traded instruments with standardized terms. The following describes these instruments and how the Corporation
uses them:
yForward Commodity Contracts: The Corporation enters into contracts for the forward purchase and sale of commodities.
At settlement date, the notional value of the contract is exchanged for physical delivery of the commodity. Forward
contracts that are deemed normal purchase and sale contracts are excluded from the quantitative market risk disclosures.
yForward Foreign Exchange Contracts: The Corporation enters into forward contracts, primarily for the British Pound
and Danish Krone which commit the Corporation to buy or sell a fixed amount of these currencies at a predetermined
exchange rate on a future date.
yExchange Traded Contracts: The Corporation uses exchange traded contracts, including futures, on a number of
different underlying energy commodities. These contracts are settled daily with the relevant exchange and may be
subject to exchange position limits.
ySwaps: The Corporation uses financially settled swap contracts with third parties as part of its financial risk
management and trading activities. Cash flows from swap contracts are determined based on underlying commodity
prices or interest rates and are typically settled over the life of the contract.
yOptions: Options on various underlying energy commodities include exchange traded and third party contracts and
have various exercise periods. As a seller of options, the Corporation receives a premium at the outset and bears the
risk of unfavorable changes in the price of the commodity underlying the option. As a purchaser of options, the
Corporation pays a premium at the outset and has the right to participate in the favorable price movements in the
underlying commodities.
yEnergy Securities: Energy securities include energy-related equity or debt securities issued by a company or
government or related derivatives on these securities.