“Planning is half of living.” If only those businesses on the wrong side of last summer’s oil price slump had this renowned ancient Arabic proverb in mind at the time. Unfortunately, many firms, including a number of high-profile airlines, failed to deploy sufficient hedging policies. But surely lessons have been learnt since, and businesses have planned for this current uptick in the price of oil following the OPEC cut?
By Mark O’Toole, Vice President of Commodities & Treasury Solutions for OpenLink
While many have reassessed their approach to hedging, some firms are still, understandably, uncertain about the best approach to take when oil hits $60 per barrel. It’s easy to see why. The previous prolonged period of falling oil prices could well have lulled firms into a false sense of security – deciding to put hedging on ice as a result. The trouble is, what goes down, must come back up, and vice versa. And despite this current spell of rising oil prices, a highly volatile global geopolitical environment means businesses can ill-afford to rest on their laurels. After all, it only takes another “Venezuelan spring-like” event for commodity prices to head south. And for businesses heavily exposed to commodities like oil, continued failure to plan for future volatility will have a negative impact on their bottom line – particularly for those who price raw materials into producing finished goods.
Of course, in order to manage this risk complexity, businesses will know they need to protect their margins by planning to change their approach to hedging. Some businesses have a tendency to hedge for the entire year, but in the current climate, this is by no means the best way to manage risk. From fresh political tensions between Saudi Arabia and Iran to another unpredictable move from Putin, there is no telling what could be around the corner. As such, businesses need to find increasingly more sophisticated ways to more dynamically manage hedging to keep up to speed with unpredictable events. But this is easier said than done. To hedge optimally, businesses must have a consolidated view of their physical commodity and financial exposure, while automatically calculating historic volatilities and correlations.
It is inevitable that some firms will currently be cashing in as oil nears $60, but it is those who haven’t yet prepared for the next fall who are most exposed. This is why, regardless of whether oil is up or down, a greater number of businesses are looking to combine treasury and procurement expertise to enable their finance departments to have timely view of their risk, ready for whenever the next big price swing occurs. And for those firms still unsure about the importance of hedging, they may want to “ask the experienced rather than the learned.” Or translated from non-Arabic proverb language, ask some airlines about how they were caught short by last year’s oil price decline.
Mark O’Toole is Vice President of Commodities and Treasury Solutions at OpenLink.