In June 2014, Brent crude oil traded as high as $115 per barrel, only to collapse and trade as low as $45 a barrel in January this year. After rebounding in late winter and spring, Brent prices once again declined, this time to $42 per a barrel in late August. Similarly, bunker fuel prices in many regions reached north of $600 per metric tonne (p/mt) in June last year and have traded as low as $200 p/mt in recent weeks.
Given the significant decline in prices, most in the bunker industry should be quite pleased that prices have declined as much as they have – correct? Unfortunately it’s not that simple as many companies have hedged their bunker price risk at much higher levels and, as such, many are currently experiencing significant hedging losses.
While high fuel prices were a major factor that led to many companies’ poor financial performance last year, low prices accompanied by hedging losses are creating similar problems for many companies this year. In what you might consider to be an odd case of irony, many of the companies currently experiencing fuel hedging losses are companies with strong balance sheets and credit ratings, factors which easily allow them to enter into large volume and/or long term hedging contracts. Make no mistake, many of these companies were well aware that they would experience hedging losses if oil prices were to decline significantly but concluded that not hedging was too much of a risk to take.
On the other hand, companies with weaker balance sheets and insufficient credit lines are often not easily able to hedge their fuel price exposure. As such, when bunker prices reached $600 p/mt last year, the financial performance of most of these companies suffered as well. However, they have certainly benefitted from the subsequent lower prices as well. Both of these scenarios have also surfaced in other significant fuel consuming industries, such as commercial aviation and power generation.
While most in the industry are well aware of the basics of hedging, far fewer have a strong understanding of the cash management and credit risk aspects of bunker hedging. Given the significant volatility in crude oil and bunker fuel markets, the remainder of this article will explore various aspects of cash management and credit risk as it relates to bunker hedging.
Editor's note: This is an exerpt of an article written by Mike Corley for the October/November issue of Bunkerspot. You can access the full article via this link.