There are several situations occurring now that we haven’t seen in a long time (maybe not ever), and they are leading to some questions that need to be addressed – now!
- Supply shortages
- Basis Blowouts
- Empty storage tanks
- Rising interest rates
- High Inflation
- Confusing messages from political leadership
- Severe backwardation in the futures markets
- Suppliers being very coy about “diffs”
Over the past year, as retail prices moved from ~$3.00/gallon to as much as $7.00/gallon, customers who were on pricing programs were shielded from the price spikes, and their neighbors were more than a little jealous. Sure, it costs money to be on a cap program, and you might even have to be on a budget plan AND have a service contract. But the savings. Ah, the savings… Caps are intended to protect customers from price increases and allow them to benefit if prices fall. It does come with a cost (the costs to hedge the cap), but over this past year, those costs were an investment that yielded fantastic results and has customers (and their neighbors who missed out) coming back for more!
Dealers who offered the caps, and hedged them properly, met their profit goals and earned a good deal of loyalty and reputation enhancement. However, and this is big, however, the basis blowout of March-May has impacted some margins and has some dealers unsure of how to offer their caps for next year. Or, worse, some dealers wondering IF they should offer a cap! While it is not our position to tell anyone how to run their business, I believe that we are at a seminal moment in our industry, one that will help define success (or lack thereof) for many dealers.
Given that customers want caps, need caps, and are expecting caps, we believe that you have no choice but to offer a cap. We also realize that you DO have a choice, and some will choose to not offer a cap. We believe that there is a tremendous opportunity to grow your business by offering caps to customers who are out there searching (online, asking friends, etc.) for a cap. It will not be as easy as in years past, with the newfound concern over basis diffs and how to manage those risks. However, there are hedges that should be considered and while the notion of zero risk usually equates to zero opportunity, we believe that the risk/return is very worth considering.
Imagine reaching out to your customers with one of the following messages:
Option #1: “This past year we capped you at $3.29 per gallon. You never paid more than $3.29 per gallon, even when your neighbors were paying nearly $7.00 per gallon! Look around at gasoline prices and you will understand why heating fuels are so expensive. Our offer for next year is (as an example) $4.99* per gallon. We hope to be able to charge you less than that, but oil prices will have to fall. However, we can guarantee that with our cap, you will be fully protected against anything over $4.99 per gallon.”
Option #2: “This past year you were capped at $3.29 per gallon. You never paid more than $3.29 per gallon, even when your neighbors were paying nearly $7.00 per gallon! Look around at gasoline prices and you will understand why heating fuels are so expensive. Unfortunately, this coming season, we will be unable to offer you a pricing program, but we hope to have earned enough loyalty that you won’t shop around for a cap.”
Yes, stretching a point to prove a point, but never take customers for granted. If you don’t offer them something they want, they will look elsewhere. If you can offer them something, you should. You are in business to make money and you need to stack the deck in your favor. A hedging program that addresses “the hedge stack” (Merc, basis, volume, margin) is achievable. Perhaps not totally risk-free, but you need to make an informed decision, not a gut decision.
*Side note: in prior years, you might have been able to make a similar offering with an even lower cap, but the value of “elbow room” cannot be overstated.
Written by Phil Baratz
PAST RESULTS ARE NOT NECESSARILY INDICATIVE OF FUTURE RESULTS. The risk of loss in trading commodity interests can be substantial. You should therefore carefully consider whether such trading is suitable for you in light of your financial condition. In considering whether to trade or to authorize someone else to trade for you, you should be aware that you could lose all or substantially all of your investment and may be liable for amounts well above your initial investment.