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Southwest Airlines Gains Advantage By Hedging On Long-Term Oil Contracts

CHICAGO: Southwest Airlines, in danger for much of this year of losing its quirky dominance over the U.S. domestic airline industry, could soon be standing, once again, head-and-shoulders above its competition.

Better service? Happier and more productive workers?

Not this time. The reason for Southwest's rapidly increasing advantage over other big airlines is much simpler: It loaded up years ago on hedges against higher fuel prices. And with oil trading above $90 a barrel, most of the rest of the airline industry is facing a huge run-up in costs, and Southwest is not.

Southwest owns long-term contracts to buy most of its fuel at the equivalent of $51-a-barrel oil through 2009. The value of those hedges soared as oil raced above the $90-a-barrel mark and they are now worth more than $2 billion. Those gains would mostly be realized during the next two years.

Other major airlines passed on buying all but the shortest-term insurance against high fuel prices, giving Southwest executives a mild case of schadenfreude.

"It's true," said Scott Topping, treasurer at Southwest and keeper of the hedges. "We're not sure what to root for," in terms of oil prices. Southwest is hurt, too, by higher fuel prices, but far less than competitors, giving the carrier a distinct advantage.

Some other airlines, meanwhile, could start reporting losses as early as the current quarter, unless they are able to rapidly raise fares, said Roger King, an analyst at CreditSights. "Airlines were not made for $90 oil," King said in a report last week.

Just last January, it was other airlines that were enjoying the prospect of Southwest's misery. As oil dipped down to about $52 a barrel that month, it was looking like an airline with more than its share of problems.

Traditional hub-and-spoke carriers like Delta Air Lines and Northwest Airlines had deeply cut their costs by running through bankruptcy and could now profitably compete on fares with Southwest. Moreover, because...