Risk management for fuel resellers and end users
This story was produced by Shipley Energy and reviewed and distributed by Stacker.
Risk management for fuel resellers and end users
Because the wholesale fuel markets can change rapidly with political, weather, and trading events, businesses and organizations using large amounts of fuel need to address marketplace risks around pricing and fuel supply.
Shipley Energy provides the following risk mitigation strategies businesses can put into place to better tolerate risk.
Market and price volatility risks
- Fuel prices are subject to significant fluctuations due to but not limited to geopolitical events, high frequency algorithmic trading, supply chain disruptions, OPEC decisions, and natural disasters.
- Fuel resellers risk margin compression when prices rise rapidly, while end users may face higher operational costs.
- Higher fuel prices may put stress on your credit lines, cash flow, or customer demand.
- A backwardated market may negatively affect your inventory valuations or put strain on supply availability
Market and price mitigation strategies
Fuel resellers have a natural hedge to gradual price fluctuations—they buy fuel, mark it up, and resell it. The risk lies in the holding period (when you buy versus when you sell) and the volatility (how fast the market moves). To reduce these risks, you can:
- Shorten your holding period through better inventory management. For example, don't hold 50,000 gallons in storage if you only sell 10,000 gallons per week.
- Purchase what you sell. If you provide a price cap program to your customers, where they can lock in a ceiling price and receive a lower price if the market drops, make sure you're using the right market structure to do so. For instance, do not back a price cap program sale with a standard fixed priced fuel purchase. In this case, if you hedge a fixed price and the market goes below it, you'll be stuck with higher-priced product.
- Layer in your purchases for a weighted average cost of goods. This strategy works especially well for heating oil and propane.
- Protect your basis. As we have experienced in recent years, local (rack and pipeline) price basis can be exponentially more volatile than NYMEX futures. If you only hedge NYMEX futures, you are still exposed to rack and pipeline basis volatility.
Fuel end users do not have a natural hedge. They are exposed to a rising price fuel market, which may increase their operational costs.
- Add a variable fuel surcharge that gets passed along to your customers based on the cost of diesel.
- If you cannot pass on a variable fuel surcharge to your customers, consider locking in a fixed price or a CAP price for your fuel. This takes the guess work out of your fuel budget. You can now price your product/service based on a guaranteed cost of fuel.
Supply chain risks
- Refinery shutdowns, pipeline failures, transportation strikes, cyber-attacks, or weather events can halt the delivery of fuel.
- Even short periods of pipeline delays or temporary gaps in transportation can disrupt fuel availability.
- Fuel shortages may impact your ability to meet customer demand, damage your company's reputation, and negatively affect your profitability.
Supply chain mitigation strategies
Supplier Diversification:
- Establish relationships with multiple suppliers to ensure redundancy or work with a wholesaler that has established relationships.
- Partnering with suppliers that have redundancy built into their own business adds a second layer of security.
Inventory Management:
- Maintain strategic reserves of fuel to buffer against short-term supply disruptions.
- If you do not have enough storage for 10 days of demand (one pipeline cycle), make sure that your supplier has storage space at your local fuel terminal.
Transportation:
- Develop partnerships with reputable logistics companies that have redundancies built into their business models.
