One frequently hears the term “fuel hedging”. May not be much in India, since airlines are not allowed to import fuel directly, and the government controlled oil marketing companies Indian Oil, Bharat Petroleum, Hindustan Petroleum, etc., do not practice hedging.
Fuel Hedging is a contractual tool used by some airlines to stabilize jet fuel costs. A fuel hedge contract commits an airline to paying a pre-determined price for future jet fuel purchases. Airlines enter into such contracts as a bet that future jet fuel prices will be higher than current prices or to reduce the turbulence of confronting future expenses of unknown size. If the price of jet fuel falls and the airline hedged for a higher price, the airline will be forced to pay an above-market rate for jet fuel.
Southwest Airlines is touted as a model fuel hedger. Southwest’s aggressive fuel hedging has helped the airline avoid some of the pain of the recent airline industry downturn resulting from high fuel costs. Between 1999 and 2008, Southwest saved approximately $3.5 billion through fuel hedging.
In short fuel hedging is hard to understand and even harder to get right, especially in the past year with prices as volatile as they have been. We have seen the complete crumbling of the Indian airline industry due to rampant fuel prices.
Flightglobal has put together an interesting selection of articles in case you are interested in fuel hedging.
And while oil prices have retreated, this article raises the disturbing question “Can airlines survive $200-a-barrel oil?”
As ever, when people try to second guess the market, the potential for error is huge, but the events of the past year have made the topic of fuel hedging so critical.