Oil price hedg­ing the key to sta­ble fuel prices....

Zambian Business Times - - FRONT PAGE -

Volatil­ity in the price of crude glob­ally has ad­versely im­pacted fuel im­porters glob­ally. As such pump prices of fuel have been ad­justed up­wards re­sult­ing in a bal­loon­ing in pro­duc­tion costs. This is as a consequenc­e of higher pump prices of fuel ( gaso­line, diesel and JET Air fuel). Re­cently the En­ergy Reg­u­la­tion Board – ERB an­nounced a steep hike that has seen petrol 16.85% higher to K16.06, diesel 21.98% to K14.65 and Kerosene 28.14% to K11.34 per liter.

A swap, on the other hand, locks in the pur­chase of oil at a fu­ture price at a spec­i­fied date. If fuel prices de­cline in­stead, the air­line com­pany has the po­ten­tial to lose much more than it would with a call op­tion strat­egy.

The above strate­gies have been suc­cess­fully im­ple­mented by cor­po­ra­tions across the world. Surely coun­tries can­not be an ex­cep­tion.

A CASE STUDY OF MOROCCO (Source: Financial Times)

Morocco has be­come the first oil-im­port­ing coun­try to turn to Wall Street banks to pro­tect itself against high oil prices. The move high­lights the chal­lenges faced by gov­ern­ments in Africa and the Mid­dle East grap­pling with so­cial dis­con­tent be­cause of ris­ing fuel costs.

Morocco has en­tered into de­riv­a­tives con­tracts to hedge any un­ex­pected rise in the cost of im­ported fuel, the FT said, cit­ing two peo­ple fa­mil­iar with the deal. The rare hedge trans­ac­tions, made last month, come as Morocco starts to wind down a costly sub­si­dies pro­gram un­der pres­sure from the In­ter­na­tional Mon­e­tary Fund.

Morocco is the only oil im­port­ing na­tion known to be hedg­ing its con­sump­tion through de­riv­a­tives ar­ranged by the gov­ern­ment, the FT said. Ghana, an oil ex­porter, has pre­vi­ously taken out hedges on oil im­ports and ex­ports at the same time.

The Moroc­can gov­ern­ment ini­tially hedged its im­ports with lo­cal bank Banque Maro­caine du Com­merce Ex­terieur (BMCE), and BMCE then paid pre­mi­ums to Bar­clays, Citi and Mor­gan Stan­ley to take on the risk. The trans­ac­tions cov­ered a large chunk of Morocco's ex­pected fuel con­sump­tion for the rest of the year, and cost the gov­ern­ment roughly $50-60 mil­lion, the FT said, cit­ing a per­son fa­mil­iar with the deal.

The gov­ern­ment bought so-called call op­tions for Eu­ro­pean diesel, which give Morocco the right to buy fuel at a pre­de­ter­mined price for the rest of the year. Morocco's move comes as coun­tries across the world bal­ance the cost of fuel sub­sidy regimes with the threat of so­cial unrest if they un­wind them.

CON­CLU­SION

I there­fore rec­om­mend the En­ergy Reg­u­la­tion Board - ERB and the Zam­bian Gov­ern­ment con­sider the vi­a­bil­ity of im­ple­ment ef­fec­tive hedg­ing strate­gies to mit­i­gate risk in price move­ments of crude oil. The coun­try can then lock in hedg­ing con­tracts that will en­sure a sta­ble and pre­dictable fuel price regime in Zam­bia.

Note from ZBT - There should how­ever be pub­lic sen­si­ti­za­tion that once hedged, the coun­try can­not ben­e­fit from any price drops, which are mostly rare in Zam­bia. The hedge how­ever should be taken when fuel prices av­er­age out.

About the Author - Philip is a keen reader of the Zam­bian Busi­ness Times and wrote this ar­ti­cle to con­trib­ute to the de­bate on avail­able op­tions for Zam­bia to sta­bi­lize its fuel pump prices and find a last­ing so­lu­tion.

This ar­ti­cle has been re­pub­lished and was first car­ried on our web­site www.zam­bi­abusi­nesstimes.com in 2017.

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