Modern airlines are really transportation system, and part financial trading firm. And sometimes they’re more of the latter than the former.
As Delta lost billions of dollars last year on commodities futures (‘fuel hedges’) I wrote that they’re as much a complex derivatives trading firm as an airline.
Their 2015 losses on these financial products totaled $2.3 billion. They continue to rack them up, announcing on Tuesday that they would take a $450 million loss. The airline’s cumulative hedging losses total $4 billion over the last 8 years. It didn’t help that Delta’s former Vice President of Fuel was front-running his own trades.
Delta’s financial gambling challenges, then, aren’t new. They lost nearly $1.5 billion on fuel hedges in 2009. And they kept at it.
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The airline industry is “notorious for bad trading decisions” and has “a reputation for being comically bereft of any trading savvy.”
Southwest long benefited from its fuel hedges, until they didn’t, and when they didn’t it was evil GAAP accounting’s fault. Southwest expects a billion dollars in losses on fuel hedges this year.
United faced $100 million in losses for each $1 change in the price of oil early last year year. The airline lost over half a billion dollars in a single quarter in 2008 on its fuel hedges. And that’s after decrying the evils of oil speculation. The irony was completely lost on most observers.
Since fuel is a huge part of the cost structure of an airline, and one that’s highly variable, one can make the case for locking in a price. But that’s another way of saying gambling on that the price of fuel is likely to rise rather than fall. And if you bet wrong, you’ve forgone profits.
The airlines have attempted to build capabilities here for many years without much success, so it may be time to learn some humility in the space.
US Airways management has stayed out of the hedging game and brought the same philosophy to American. Instead of ‘locking in the price of fuel’ they believe ticket prices and move in tandem with fuel prices so they don’t see the need. They’d be better off with a good hedge, of course, but avoid the bad ones.
That’s really the issue here: does any given airline have a strong commodities trading capability? Or do they just think that they do?
Air India and Thai were in the oil futures market in 2015, and it seems to me that when Thai Airways goes all-in on oil futures and Air India wants a seat at the trading table too that the smart money has already been made.
I’m not an expert commodities investor. My own guess is that the price of oil recovers when the Chinese economy does. But that’s just a guess, and why I invest primarily in low cost equity index funds. An airline could be expert at this. But there are real expert traders who do nothing else who get killed on this as often as they don’t.