International oil prices jumped in shock, and the market expects that oil prices will only be higher in the short term. Since fuel accounts for 30% of airline costs, the surge in oil prices is another blow to the unrecovered aviation industry. Airlines are already mulling price increases, such as Qantas Airways, which has said it needs to increase its revenue per seat-kilometre by 7 per cent, saying it is small enough to affect travel to some extent.
In fact, rising oil prices will not necessarily affect airlines. General airlines will adopt a hedging strategy to respond to oil price fluctuations. For example, European airline Lufthansa has hedged 63% of its fuel demand in 2022 to $74 per barrel, and Ryanair said that by March next year, 80% of its fuel demand The hedge price is $63 a barrel. British Airways has said it will hedge 60% of its fuel prices for the rest of the year, but did not specify a price cap.
Hedging can help airlines avoid rapid fluctuations in fuel costs, allowing them to keep fares stable even when oil prices rise or fall rapidly. Southwest Airlines used a fuel hedging strategy in the 2000s that allowed them to lock in jet fuel prices well below what competitors paid, giving them a huge competitive advantage in pricing.
Delta Air Lines operates an oil refinery. In addition, Southwest Airlines and Alaska Airlines have hedged some fuel needs. But the three largest U.S. global airlines, American Airlines, Delta Airlines and United Airlines, are not hedged. Another big factor affecting fares is demand, and while U.S. airlines typically aren’t hedged, the recovery has been stronger and can therefore boldly pass on costs to customers. For example, strong demand in the United States has caused American Airlines to raise prices. Travel booking app Hopper said domestic airfares have risen 21 percent since the start of the year and international airfares 13 percent.
The situation is different in Europe, where the recovery in demand has not been strong since the start of the pandemic, and some European airlines such as Lufthansa and Ryanair have tried to make up for this through heavy fuel hedging, or airlines buying fuel in advance at fixed or capped rates contract. Demand is still everything, and European airlines may be reluctant to raise prices immediately, even with a surge in oil prices.
Even though changes in oil prices don’t affect air passengers as quickly as they do car driving, fuel costs are a major concern for airlines. Hopper economist Adit Damodaran said that, on average, 30% of an airline’s operating costs come from fuel costs, and a 10% increase in jet fuel costs would result in a 3% increase in airline operating expenses. Jet fuel costs have risen 113% since the start of 2021, and airfares are set to rise in 2022.
Qantas said that with the expiration of the oil hedging contract, air ticket prices are expected to need to rise. Although the recovery of business travel is slow, the domestic leisure travel market and some key cities have even higher international demand than before the epidemic. Jefferies analyst Anthony Moulder reported that Qantas has the ability to raise fares and slow capacity increases in response to higher oil prices. However, Qantas chief executive said the 7 per cent increase in revenue per seat per kilometre was modest but large enough to impact travel to some extent.