Hedges Continue To Fuel Low-Cost Carrier

What just last year looked to be a declining advantage for Southwest Airlines, is surging as quickly as the price of oil.

The New York Times reports Southwest's years-long policy of hedging fuel prices may once again prove to be highly lucrative for the Dallas-based low-cost carrier. While the airline is paying more for fuel than it was just a few years ago, it's still far below the going rate for other airlines.

Southwest is enjoying fuel prices calculated if oil only cost $51 per barrel... and it has that cost locked in through 2009. With oil prices currently topping $90 per barrel -- and projected to hit $100 per barrel in the very near future -- the higher the cost of oil goes, the better Southwest is positioned for the next two years against its rivals.

And that means Southwest is enjoying a little schadenfreude -- or "shameful joy" -- against other US airlines. "It's true," Southwest treasurer Scott Topping -- who negotiates fuel hedge agreements -- said.

It's not that Southwest isn't hurt by higher oil prices; it wasn't long ago the airline was paying around $35 per barrel. The hedges mean the airline is affected by price spikes on a level far removed from other carriers, however.

Which puts Topping, and Southwest, in the unusual position of welcoming higher fuel prices. "We’re not sure what to root for," he admits.

Just 10 months ago, it appeared Southwest's hedging advantage was coming to an end. In January, the price for oil hovered around $52 per barrel... presenting Southwest with little cost advantage over other airlines. It was in that mindset the airline started pursuing other revenue opportunities, such as its increased emphasis on business-class fliers.

As the year progressed, however, the airline's hedge advantage continued to grow... leading industry insiders to question why other airlines didn't follow Southwest's lead in securing hedges when they had the chance last year.

"Maybe they were distracted," said Bear Stearns analyst Frank Boroch. "It's a copycat industry. If everybody is in the same boat, that's going to give you comfort, or an excuse... 'Why hedge at $52 when it might go to $40?’"

Topping says Southwest usually expects high fuel prices to prevail... even when prices fall in the short-term. "In hindsight," he said, "we’d have picked more [hedges] up."

FMI: www.southwest.com