Hi all,Yesterday, I read in "lesechos" (french daily) that airlines companies will have big loss in 2008 and 2009.Also, the article underlined that american companies will have the biggest loss because they haven't got the same hedging.But why?Because american companies take more risk in their strategies?Or because they don't have enough money to have the same hedging?Regards.Ludo

I'm not sure how accurate that statement is re: hedging.Southwest in the US has led the way on hedgingSouthwest's oil hedge could save it $1 billion or moreTake a look at RyanAir's record:Ryanair, which was largely unhedged for the first quarter, has now hedged 90 percent of its fuel needs for September at $129 a barrel 2006: Ryanair burns its fingers on its own hedge

I've heard transportation companies talk about the reasons that they don't do hedging of fuel. It could be summed up as "hedging = gambling = risky." Stories of Nick Leeson, Sumitomo Copper, etc. help maintain the idea that hedging is one-way slippery slope to losing billions. Now, you and I both know that hedging in moderation can reduce risks, but that's NOT the perception among the executives at these companies.There were also some recent (a few years ago) in which some U.S. airlines had losses because they had hedged in high oil prices. It would not surprise me if executives at U.S. airlines have a fuel-should-be-cheap mentality that makes them fear that hedging oil @100/bbl will just lock in unnaturally high fuel prices. If you fully expect oil to go back to $50/bbl, you would not hedge when oil moves to $60, $100, or $140/bbl. In contrast, Europeans are more experienced with high fuel costs and thus more likely to take steps to ameliorate the impact of fuel costs.

One of the reasons perhaps is that airline companies are more prepared to pass on extra costs to the consumer (think, for example the British Airways "fuel surcharge")The consumers on the other hand, appear quite prepared to accept *very* volatile prices for airline tickets. With many operators in the UK, prices are changing on an hour-by-hour basis.

I am not an aviation industry expert, but I talk to a lot of Americans, and easily the #1 bitch is airlines.Not costs much but the way they screw you around, stupid extra charges, staff who ought to be working at Guantanamo Bay and the TSA.I suspect that we may be near a step change in behaviour in air travel, even if oil does not go up much.Flying may become so unpleasant that Americans simply stop doing it unless really necessary.

Here is a nice bloomberg story of where fuel price hedging gets you! Funny it should happen to United of all the companies....

QuoteOriginally posted by: bojanHere is a nice bloomberg story of where fuel price hedging gets you! Funny it should happen to United of all the companies....Why do they get the hedging wrong? Because they believe in the crap models that crank out crap analyst reports and forecasts.

QuoteOriginally posted by: rcohenQuoteOriginally posted by: bojanHere is a nice bloomberg story of where fuel price hedging gets you! Funny it should happen to United of all the companies....Why do they get the hedging wrong? Because they believe in the crap models that crank out crap analyst reports and forecasts.Rubin,I don't suppose the public domain is privy to the steps that led to this conclusion? Somewhere, someone made an assumption, yes? Like the economy would go on as usual etc.?

QuoteOriginally posted by: CuchulainnQuoteOriginally posted by: rcohenQuoteOriginally posted by: bojanHere is a nice bloomberg story of where fuel price hedging gets you! Funny it should happen to United of all the companies....Why do they get the hedging wrong? Because they believe in the crap models that crank out crap analyst reports and forecasts.Rubin,I don't suppose the public domain is privy to the steps that led to this conclusion? Somewhere, someone made an assumption, yes? Like the economy would go on as usual etc.?Thx, Cuchulainn, for reminding me to add "...and crap assumptions" to my statement above.

Most airline tickets are bought about 1 month or less before departure, so this is the only timescale at which hedging makes sense. For longer term fuel price changes, costs can and should be passed onto consumers -- like we have witnessed just now, there is a natural mechanism which restores prices to reasonable levels.In this case the hedge was longer term, and the reason was simple speculation. After all, if you get it wrong, you get bailed out by the government! This is happening with UAL already: for example much US government/ armed forces flying has to go through them.

QuoteOriginally posted by: rcohenQuoteOriginally posted by: CuchulainnQuoteOriginally posted by: rcohenQuoteOriginally posted by: bojanHere is a nice bloomberg story of where fuel price hedging gets you! Funny it should happen to United of all the companies....Why do they get the hedging wrong? Because they believe in the crap models that crank out crap analyst reports and forecasts.Rubin,I don't suppose the public domain is privy to the steps that led to this conclusion? Somewhere, someone made an assumption, yes? Like the economy would go on as usual etc.?Thx, Cuchulainn, for reminding me to add "...and crap assumptions" to my statement above.Rubin,This story reminds me of someone whose first house price shot up and then he started buying apartments in Bulgaria and Jo'burg. His assumption was that it times got bad he would just sell them...ouch. He did not make a list of what-if scenarios..

QuoteOriginally posted by: rcohenQuoteOriginally posted by: bojanHere is a nice bloomberg story of where fuel price hedging gets you! Funny it should happen to United of all the companies....Why do they get the hedging wrong?Hedging is a damn-if-you-do, damned-if-you-don't strategy.For an airline, not hedging fuel costs is clearly a directional bet on fuel prices -- if fuel prices rise, the airline loses money and marketshare to any competitors that have hedged fuel prices. So some airlines hedge. But, the ugly reality is that hedging is also a directional bet for an airline -- if fuel prices fall after the buying the hedge, the airline loses money and marketshare to it's unhedged competitors. Southwest Airlines recently lost billions on this trick and United Airlines managed to lose money on both types of directional bets (United under-hedged during the rise in oil prices and over-hedged during the price drop). The larger point is that the risk for the airline is not just a function of the volatility of market prices (volatility can be cured by hedging). Instead, the risk is a function of the combination of price volatility and the diversity of competitors' hedging strategies. If all airlines hedged an equal amount at similar times, then the damage from price volatility would be much lower. To the extent that some airlines hedge and some don't amplifies the impact of price volatility. In other words, it's both wrong to hedge and wrong not to hedge.

QuoteOriginally posted by: Traden4AlphaHedging is a damn-if-you-do, damned-if-you-don't strategy.Also worth noticing is that hedging today a projected usage of a resource (or expected future receivables in foreign currencies) can lead you to immediate cashflows as the MTM of your hedge moves against you (e.g. Metallgesellschaft AG in 1993).

QuoteOriginally posted by: Traden4AlphaQuoteOriginally posted by: rcohenQuoteOriginally posted by: bojanHere is a nice bloomberg story of where fuel price hedging gets you! Funny it should happen to United of all the companies....Why do they get the hedging wrong?Hedging is a damn-if-you-do, damned-if-you-don't strategy.I was trying to say that in this business hedging is a "damned if you do (only)" strategy. If oil prices go up, you pass the higher prices on. If your competitors were hedged, they can keep same prices and will get a bit more business but they can't really add capacity efficiently to make use of the about one year hedge. And they would have been making less money in good times.If oil prices stay high, that is too bad, people *will* fly less -- your one year hedge won't buy much....

QuoteOriginally posted by: bojanQuoteOriginally posted by: Traden4AlphaQuoteOriginally posted by: rcohenQuoteOriginally posted by: bojanHere is a nice bloomberg story of where fuel price hedging gets you! Funny it should happen to United of all the companies....Why do they get the hedging wrong?Hedging is a damn-if-you-do, damned-if-you-don't strategy.I was trying to say that in this business hedging is a "damned if you do (only)" strategy. If oil prices go up, you pass the higher prices on. If your competitors were hedged, they can keep same prices and will get a bit more business but they can't really add capacity efficiently to make use of the about one year hedge. And they would have been making less money in good times.If oil prices stay high, that is too bad, people *will* fly less -- your one year hedge won't buy much....Actually, airlines can't pass on fuel costs for two reasons. First, once a person buys a ticket, the airline is more-or-less obligated to fly the passenger (yes, airlines can cancel flights, but that's a customer service nightmare). If oil prices rise after the booking is consummated, the airline eats the fuel price change.But the situation is worse than that. The other problem for airlines is that fuel costs are NOT spread equally over passengers. Instead, leisure travelers (who often book far in advance of the flight) generally pay only the marginal fuel consumed due to the added weight. These vacationers generally don't pay for the fuel to get the rest of the plane in the air. Instead, its the last-minute "full fare" business traveller that foots the bill for most of the fuel (in some cases, the full fare may be more than ten times the leisure fare). Obviously, if full fare passengers fail to appear, the airline eats a lot of costs. The end result is that an airline is forced to make a commitment to fly a route before the revenue to support that flight has appeared.Second, Airlines can't pass on fuel costs in the presence of price competition and airline-to-airline variations in hedging. If fuel prices rise, the well-hedged airline can offer a much better ticket price to those crucial last-minute fliers than can an un-hedged airline. Thus hedging creates competitive advantage during rising fuel prices. But if fuel prices fall, the un-hedged airline can offer a much better price to business travelers than can the hedged airline. Thus hedging creates competitive disadvantage during rising fuel prices.