May 30, 2009 - With oil prices climbing back above $60 US a barrel, aggregate producers and roadbuilders are once again looking at ways to manage fuel costs. Jim Sanderson of the Jim Sanderson Group explains one approach.   

“This method involves entering into 2 to 12 month future contracts with a financial institution to hedge a fixed volume of heating oil (highly correlated to diesel and each contract represents 42,000 gallons or 158,970 litres).  In Canada, only two banks, Scotiabank and Royal Bank of Canada, are licensed to enter into a hedge agreement of this nature with their clients.

Here is how a lock in strategy would work.  A contractor, who anticipates using 320,000 litres of diesel fuel in August and to protect themselves from any rising prices, purchases 2 NYMEX heating oil futures contracts for September. Later in August when the fuel is actually purchased, they would sell the futures contract.  If the price of the diesel were to rise between now and August, the contractor would pay more for fuel on the road, but will realize an offsetting profit on their futures transaction.  If the price went down over that time period, the fuel would be purchased at the lower price.  The loss on the futures transaction will be roughly equal to their savings on fuel.  This transaction will protect the hedger against losses resulting from unanticipated price increases. It also allows you to reassure your clients that your fuel costs will be consistent for the next 12 months.

It is important to understand that hedging will not make you money, but will provide price stability during a time of price volatility.

If you did not want to lock-in the price of future fuel purchases, but rather wanted to have protection against an extreme increase in price, you could employ the second type of hedging strategy and lock in the maximum price you pay for fuel.  This would be similar to buying insurance.  In this hedge by using options, a contractor can benefit from advantageous changes in prices while protecting them from losses due to adverse changes.

Energy markets, like other markets, never stand still and it’s tough to forecast the next policy shift or global event that will throw everything out of whack again.

Hedging allows you to fix the diesel price for your company, minimize the volatility and surcharges and lets you get on with your business.”

For more information go to www.jimsandersongroup.com