It has been a brutal year for SandRidge Energy (NYSE:SD) investors. The stock is off nearly 40% as the sell-off in oil over the past few months really sent the stock tumbling.

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SandRidge Energy's downward spiral actually started with its second-quarter results. While the company beat analysts' earnings estimates it lowered full-year production guidance by 4%. Shortly thereafter the company announced that COO David Lawler was leaving to become the chief executive of BP's (NYSE:BP) Lower 48 onshore business. These announcements, which sparked the sell-off in the company's stock, have only been made worse by the sell-off in oil.

However, there is some hope on the horizon and that's the company's third-quarter earnings report that's expected to hit the wire on Wednesday evening after markets close. The hope is that SandRidge will report much better than expected results that can put a halt to the stock's decline.

Reason for optimism
One of the reasons to be optimistic this quarter is the fact that SandRidge Energy hedges a substantial portion of its production to protect against the volatility of oil and gas prices. As we see on the following slide 95% of the company's liquids volumes are hedged in 2014.

Sandridge Energy Inc Hedging

Source: SandRidge Energy Investor Presentation 

This represents 97% of the company's liquids revenue, which is incredibly important because about 80% of the company's cash flow comes from liquids production. Overall, SandRidge Energy is one of the most well hedged energy companies in the country as its hedge book rivals that of an upstream MLP like LINN Energy (NASDAQ:LINE). Suffice it to say, despite the sell-off in oil prices SandRidge Energy's cash flow is well protected against this volatility.

One area to watch closely
That being said, investors will be just as focused on SandRidge Energy's production in the quarter to see if any of the issues that plagued it in the second quarter carried over into the third-quarter. Last quarter SandRidge Energy saw a 350,000 barrel of oil equivalent, or BOE shortfall in production from the Permian Basin due to water issues as well as a 250,000 BOE production deferral in the midcontinent region due to power and weather disruptions. Because of this it reduced full-year production guidance to 28-29 million BOE. Needless to say we don't want to see another reduction in guidance announced this quarter.

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Source: SandRidge Energy

Ideally, we'd like to see that SandRidge Energy had a stronger than expected quarter as new wells drilled in the third quarter exceeded the average 30-day initial production rate curve by an even greater amount than last quarter. Further, we'd hope to see that the company's exploration efforts in the Woodford and Chester plays hit pay dirt. The company drilled a very solid Woodford well last quarter using a new geologic model and will be testing that model again in the third quarter. Meanwhile, the company has a three rig drilling program in the Chester formation that we'd like to see deliver strong results. Hopefully, all of these wells were gushers leading SandRidge Energy to deliver stronger than expected production in the third quarter.  

SandRidge Energy really needs to announce strong third-quarter results in order to put a halt to the sell-off in its stock. Given its hedging program the company shouldn't have any trouble hitting Wall Street's estimates for earnings. That's why we are more concerned with production guidance because another poor showing could reignite the sell-off in SandRidge Energy's stock. 

Matt DiLallo owns shares of Linn Energy, LLC and SandRidge Energy. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.