Exclusive - U.S. airlines confront cheap oil's flip side: costly hedges
By Catherine Ngai and Jeffrey Dastin
NEW YORK (Reuters) - Some major U.S. airlines including Delta and Southwest are rushing to finance losing bets on oil and revamp fuel hedges as tumbling crude prices leave them with billions of dollars in losses, according to people familiar with the hedging schemes.
In theory, airlines are among the top beneficiaries of a six-month slump that halved crude prices to five-year lows. Oil is the biggest variable cost for airlines, often representing a third or more of their total operating expenses.
But now, carriers such as Delta Air Lines and even Southwest Airlines, known for a successful hedging program that locked in cheap fuel prices before they rose a decade ago, see some of the benefits of cheap fuel eaten away by hedging costs.
That is largely because they have used common but risky hedging strategies, among them a "costless collar": selling financial options that pay off when oil prices fall and using the proceeds to buy protection against soaring costs when prices climb, according to three people familiar with the programs.
The two carriers have been moving quickly to strategise how to meet demands from brokers and banks for additional collateral to cover potential losses from a strategy that made perfect sense just six months ago, those people said. The airlines have also held a series of meetings that included airline executives, brokers and consultants, according to the people, who declined to be named because of the sensitive nature of the discussions.
With oil prices tumbling faster and further than anyone had anticipated, the collar hedges left the airlines with insurance against high costs they no longer need and on the hook for protection they sold against a further slide, with potential liabilities on the rise.
Southwest spokesman Chris Mainz said the meetings were part of a routine, although a rapidly changing market called for close attention.
"We continue to benefit from declining fuel prices," Mainz said in an email. "Obviously we're going to move faster when the price drops in the 40 percent range. (Our fuel team) have been very busy actively managing our portfolio to respond to the changes we are seeing in the market." Continued...