The home heating oil industry has a long and proud history, and Fuel Oil News has been there supporting it since 1935. It is an industry that has faced many challenges during that time. In its 77th year, Fuel Oil News is doing more than just holding
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FUELS By Keith Reid hedging today What has changed with hedging and our new energy reality? P rice volatility has always an issue with fuel, though starting in the mid-2000s and extending up to the last couple of years there was extraordinary volatility to go along with what had become ever- increasing prices. The primary driver laid out in the national business media was a declining supply of conventional oil and increased demand in the developing world. Increased speculation was also credited to commodity deregulation at the end of the Clinton administration and a massive influx of non-commer- cial players. But then, the breathtakingly sudden success of fracking technologies in just the past handful of years not only led to significant new supplies of natural gas but considerable new supplies of relatively inexpensive crude oil as well. Similarly, derivative reforms in The Dodd–Frank Wall Street Reform and Consumer Protection Act, passed in 2010, have driven many of the nontraditional players out of the market. Volatility settled down quickly, followed by prices that not only stabilized but collapsed when the Saudi's kept up their production to ensure market share at the expense of price. However, in the last six to nine months, volatility has returned, though not to the extremes that were once observed in the mid-2000s. Hedging has long been a useful, but hardly universal, tool among petroleum marketers and heating oil dealers to handle volatility. "Dependent on individual needs within the sales and procure- ment process, hedging can be a helpful tool to allow distributors or marketers to secure their margins in a moving market," said Holly DeVries, hedging manager at AMERIgreen Energy, Inc. "Internally, it can allow distributors or marketers to buy and sell physical product at differentials to the traded market with more flexibility and security. When product is hedged it can remove the fear of market exposure if inventories are held or a time lapse occurs between purchase and sale of the physical product. In some instances, hedging with a sale can also allow for more flexibility with supply logistics and pricing arrangements." But, hedging does come at an added cost related to fees, and from a speculative angle it is more or less successful depending upon the nature of a market swing. The dealer business models also come into play. "Hedging is not a one-size fits all solution," said DeVries. There are similarities for application across the market, but it really comes down to what a distributor's procurement and sales strategy is and what their individual goals are. It can be a helpful tool to provide market protection when partnered well with a distributor's overall sales strategy. In regards to customer offerings, hedging can really equip distributors with a lot of helpful tools. Options, for example, can allow distribu- tors to create cap or collar programs and even fixed-price pro- grams without fixed supply in some procurement scenarios. These programs can help distributors to build their dedicated customer base by passing on tremendous price value and flex- ibility to the retail consumer." Hedging today High prices have significant impact on the industry, but a deal- er can get burned just as easily by $0.30 or $0.40 shift, whether the base price of fuel is $2 or $4 per gallon. "If prices went up $0.03 per gallon per month for the next five years that would not necessarily be a volatile environ- ment," said Philip J. Baratz, president of Angus Energy and the managing member of Angus Partners, LLC. Angus began providing hedging services in 1991. "That might be normal and calm. As a matter of fact, if we go back to last June, nine months or so ago when prices really peaked and before they started cratering, volatility both actual and implied, which you measure when you're figuring out what an option would cost for a price, were both at multi-year lows. The Nymex stayed in a fairly narrow range. When you have something that moves $0.10 or $0.15 either way, and it stays there for a long time, the actual volatility from that is maybe 5% of price." However, that has changed. And, it reinforces the tradi- tional role of hedging but also some of the risks. "The energy environment we've seen over the past year proves the value of protecting exposed product against price risk," said DeVries. "We had been trading within a relative range from January 2011 until this heating season. This range had been dictating good buying values and creating some pas- sivity to the need for protection on exposed product—but dis- tributors who bought fixed priced product or contracts at what seemed like good values early last season took quite a hit as we broke that range and responded to the supply/demand funda- mentals. This last year is evidence that volatility will always be present and with it can come significant risk if a dealer's strat- egy includes exposed product without hedging protection." From a cost standpoint, this is also an excellent time to hedge. "To my mind really nothing is changed except now you have better opportunity to offer people caps and other incen- tives to do business then you had before, because the cost of 16 April 2015 | FUEl Oil NEWS | www.fueloilnews.com