With fuel prices being as low as they have recently been, this question has crossed most managers’ minds at least once. Any company that is a large consumer of diesel has likely looked at the declining fuel prices since the fourth quarter of 2014 and danced a little jig. Any consumer that wasn’t locked into a fixed price that is. So who is right: the Hedger or the Floater?
If you look only at October – December of 2014 then you would say the Floater. But what about the future? Should you sit back and allow your fuel expense to whipsaw or lock it in? If you choose to be a Floater then you may find yourself sitting in front of a blank budget document, furiously shaking a Magic 8™ ball hoping and praying for a sign…. Will fuel prices stay flat, fall, or rise? When it comes to budgets, the Hedger’s decision is easier because they have the price locked in; or at least they do for the next 12 to 18 months. Interesting that both strategies put you in the same boat when it comes to a multiyear budget. Both are staring at the budgets, looking for a sign, and thinking, I really wish this was easier!
When considering the above, there several takeaways: #1) We should all buy stock in Magic 8 balls (You have no idea how much they are used around budget time); #2) It is challenging to set a budget for a company or division that consumes significant quantities of fuel; and #3) Regardless of the strategy chosen, there will be times when you are seen as a HERO, and other times - a ZERO. All contingent on where the price of diesel is that day. Not to mention that neither strategy fully covers you for a multiyear budget.
So, is there an answer that solves this dilemma completely? Unfortunately no, we don’t have a solution for diesel. The truth is that the market for diesel futures markets just doesn’t have enough liquidity to hedge beyond 18 months, and even if you had the capacity to store several years’ of diesel, the physical product starts to break down over time. Sure, if money was no object you could piece together a strategy, but we are all in the business of making money; not seeing how long we can hedge fuel. If there was only a way to have our cake and eat it too.
What if there was a viable option? You may think that this contradicts our recent conclusion. But before you scoff, notice that we said there wasn’t the option with diesel. So what are the options if diesel isn’t one? What about natural gas?
Natural gas (compressed or liquid) is a viable option in this situation. Natural gas futures trade over 5 years out with good liquidity, so locking in multiple years isn’t difficult or expensive. Even without hedging and just buying retail natural gas, the pricing swings are far less volatile than diesel. To illustrate this let’s look at the historic prices of both.
The nearby graph illustrates that CNG pricing has remained relatively flat for many years while diesel pricing is all over the place. Why is that?
We could talk for days about all of the reasons for the volatility swings, but instead let’s focus on a couple of the major factors. 1) The commodity price of natural gas makes up 25 – 30% of the retail price of CNG while the crude commodity price of is 65 - 75% of the retail diesel price. This means that a spike in crude prices is felt far more than a spike in Natural gas at the retail pump. 2) Natural gas in the United States comes from North America, so it’s not a global market like crude is. This means that far fewer factors, such as geopolitical turmoil, play into the volatility and pricing of CNG and allow the street price to stay relatively stable.
So let’s do a quick recap: natural gas can be hedged for a longer period of time, is historically cheaper, and experiences far less volatility than diesel. So when you consider the original question of to hedge or not to hedge, switching to natural gas can greatly simplify the decision.
Natural Gas Vehicle News
Natural gas continues its boom in Texas as Railroad Commissioner David Porter announced Thursday that fleets are purchasing natural gas to fuel their vehicles in record numbers, according to new numbers from the state Comptroller’s office.
Behind the recent announcement that UPS plans to build 15 compressed natural gas (CNG) fueling stations is that the company is also planning to deploy 1,400 new CNG vehicles over the next year. The purchase represents a nearly 30% increase in UPS’s alternative fuel fleet of 5,088 vehicles worldwide.
In May 2015 39,000 Classes 5-8 vehicle orders were booked, down 8% when compared with May 2014, according to ACT Research.
A new study by IHS forecasts significant growth and value in the market for natural gas as a fuel in the heavy-duty transportation sector. The report, "LNG in Transportation: Challenging Oil's Grip," says that the use of natural gas as a transportation fuel could displace more than 1.5 million barrels per day (mbd) of oil demand by 2030.
Oklahoma Senate Bill 656 allows counties to borrow money from the state at no interest for up to five years to help pay for new compressed natural gas vehicles or conversions allowing existing gasoline or diesel-powered vehicles to also use CNG.
The Genesis-Edge system is available for retrofit on most 2011-2013 model year D13-powered Volvo and MP8-powered Mack Trucks. It replaces up to 85% of diesel with natural gas and is compatible with either compressed natural gas or liquefied natural gas.
The Alternative Fuel Vehicle Roadshow is set to open June 15th in Gainesville with an 8-city tour led by Georgia Public Service Commissioner Tim Echols. The series brings together a vehicle showcase and discussion panels on the practical impact of converting fleets
Gov. Gary Herbert on Thursday ceremonially signed two bills designed to help clean up Utah’s air. HB406 provides incentives for trucking companies to purchase heavy-duty trucks that run on natural gas instead of gasoline or diesel. SB15 makes it easier to receive incentives to convert light vehicles to natural gas.
Fuel Price News
U.S. proven natural gas reserves continue to soar to record highs. We now have some 360 Tcf of proven gas in the ground, recoverable under current market conditions, experiencing increases of 5-8% per year.
The great global oil glut of 2014 and 2015 is ending, and a stronger world economy will stoke demand to lift crude prices a bit, benefiting leading producers and their investors.
The latest data from oil driller Baker Hughes showed that the number of oil rigs in operation fell by 4 to 642 this week, the lowest level since August 16, 2010.