Why Nigerian airlines can’t hedge against fuel price hike – Experts

Airlines in Nigeria are unable to hedge against an increase in the price of aviation fuel because of naira exchange rate volatility and the lack of functional refineries in the country, among other factors, industry stakeholders have said.

Airlines across the world were yet to recover from the impact of COVID-19 when fuel prices rose to record highs following Russia’s invasion of Ukraine. Many airlines including those in Nigeria have raised ticket prices in order to offset their rising expenses.

Some are looking at other means of reducing costs, such as hedging their fuel use and bulk purchase of fuel together with other airlines.

Hedging involves buying a certain amount of jet fuel at a fixed price for delivery down the track. Big airlines employ hedging analysts whose job is to identify when to buy and when not to buy.

“Hedging of fuel will require that you have the capacity and you are a voluminous consumer. If you put together the Nigerian airlines, the volume they consume is quite a number but we operate in an economy that is unpredictable,” Ibrahim Mshelia, owner of West Link Airlines Nigeria and Mish Aviation Flying School, told BusinessDay.

“There is no way you can do these kinds of standard things in our economy, where tomorrow you wake up and the naira is now N500 to a dollar, and by the end of the week, it is about N570,” he added.

Mshelia hinted that with refineries in Nigeria currently not operating, it would almost be impossible for airlines to hedge.

According to him, in developed countries, most airlines pay money to their refineries to buy crude ahead of time and pay for it so that when there is an increase in prices or fluctuations like what we have now, the airlines will be saved.

“For instance, if Nigeria had sold 10 million barrels of crude oil ahead of time, for $50 per barrel, with the increase of oil price now to over $100, they would be enjoying that kind of leverage. I don’t think we can do that in Nigeria with the unstable exchange rate,” he said.

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As part of its cost-cutting measures, Kenya Airways is looking to hedge prices for 35 percent of its fuel needs.

Air France/KLM has hedged 72 percent of its fuel costs for the first three months of 2022 and 63 percent for the second quarter of the year. The airline group paid $90 per barrel for the fuel – a relative bargain compared to the current barrel price that is hovering just under $170.

A local competitor, Lufthansa, has hedged 63 percent of its 2022 jet fuel supplies at $74 per barrel. IAG, the parent company of Iberia, British Airways, Vueling, and Aer Lingus, is partially hedged for the next two years, with 60 percent of its jet fuel consumption this year covered. Likewise, EasyJet has 60 percent of its fuel costs hedged through to September 30, 2022.

“Hedging is a matter of agreeing a fixed price for the supply of fuel in the future and is a gamble,” Obiukwu Mbanuzuo, chief commercial officer of Green Africa, said, adding that sometimes airlines that hedge would win but could also lose.

According to him, Nigerian airlines can and should hedge their fuel supplies to try and mitigate the impact of fuel price rises but most of the marketers in Nigeria will not agree to take hedging contracts in naira.

He said with naira exchange rate volatility, any gains that could have been made from hedging would then be offset by exchange rate fluctuations.

According to Seyi Adewale, CEO of Mainstream Cargo Limited, local airlines can explore the option of hedging the purchase price of their future aviation fuel needs for a predetermined period (including volume) that are usually six months and not more than a maximum period of one year.

Adewale said local airlines could explore this option but he highlighted the limitations to its effectiveness and practicability.

According to him, some of the limitations include investors’ risk aversion, the volatility of the markets due to inefficiencies in aviation supply chain, potential for arbitrage due to volatility of foreign currencies, and government interference.

“Lastly, how many fleets do respective local airlines have to attract foreign speculators to our markets to fund or explore this derivative-based hedging option? The airlines still have small fleets,” he said.