The ‘Fixer’ at Southwest Airlines
Amid climbing jet-fuel costs, Southwest Airlines, the country’s largest domestic passenger carrier, reported a loss in its first quarter. But as it moves into what could be another choppy period, it’s looking to a seasoned “fixer” to smooth out the price swings: Chris Monroe.
Monroe, a boyish 45-year-old assistant treasurer, is the point man on Southwest’s fuel-hedging strategy. In that role, he works with Southwest’s chief executive and chief financial officer, among others, to figure out how the carrier can use options and other derivatives to lock in cheaper fuel prices when crude oil is on the rise — or, conversely, to avoid spending too much on hedges when prices begin to fall.
The latter scenario is what Southwest was expecting in 2011, when its fuel strategy team set the trading mandate, or hedging plan, for the first half of 2012. The possibility of a double-dip recession , the shock of the Japanese earthquake and nuclear disaster and slow U.S. growth had convinced Southwest’s brass that crude prices — typically the best indicator of refined jet fuel prices — might decline.
But a 16 percent upturn in jet-fuel prices during the first quarter left Southwest with fewer-than-needed price hedges in place, resulting in a $1.5 billion energy tab that was only marginally offset by options and other so-called paper trades.
So for the second half of 2012, Monroe, who took over the key role in the hedging operation when Southwest’s longtime treasurer, Scott Topping, left late last year, has advocated for more robust paper positions that will thrive if crude prices continue to rise. If West Texas Intermediate prices rise to between $110 and $115 per barrel, for instance, Southwest’s fuel costs will be 50 percent hedged; if they go as high as $130, the company is about 25 percent hedged, according to filings.
“We don’t know where the price of crude is going to be,” says Monroe. But, he adds, “I think we have to be generally bullish just because we’re trying to protect against an increase … So we have a little bit of a bias that prices may go higher.”
He chuckles that he and Topping, longtime colleagues and friends, used to describe themselves as the “most conflicted” managers in the building — although low fuel prices would benefit Southwest overall, it would mean their carefully crafted hedging strategy wouldn’t pay off as well. (Topping, now the chief financial officer of Hawaiian Holdings, confirms the inside joke.)
Still, “In my heart, I would love lower prices,” says Monroe. “Lower prices are good for everybody in our country, and especially good for an airline.”
Keeping costs down is a top priority for Southwest’s management these days. Traditionally, employee wages and benefits are the carrier’s biggest expense, but last year, fuel and oil costs outpaced that spending. Southwest’s energy bill for 2011 was nearly $6 billion before accounting for hedges, and this year is on track to be at least that costly. Monroe is largely mum about the company’s positions for 2013, but he doesn’t want to be caught again out by an unexpected hike.
Southwest has been hedging actively since at least 1999, and its successful trading program actually became the subject of a business-school case study on fuel hedging published by a handful of Oklahoma State University professors in 2004. Four years later, Southwest’s shrewd hedging efforts during the budding recession and the oil highs of July, when crude reached more than $147 per barrel, created $1 billion in upside. But when price plummeted later that year, Southwest had a string of losing quarters — its first in a number of years.
To keep the airline’s fuel-trading operations nimble, Monroe meets every Tuesday morning with CEO Gary Kelly, CFO Laura Wright, and two other managers to look at commodities data and discuss possible hedges. Kelly and Wright then set the written mandate — a pen-and-ink trading order — that Monroe and others can use to make telephonic trades with counterparties. Some are handled over a couple of days; others, weeks or even months.
In addition to the paper hedging Southwest does, the company also works to keep down costs on the physical side through use of alternative jet fuels, the use of cleaner-burning ground-support equipment, and other strategies.
Commodities analysts say that Monroe, who trades with major Wall Street firms like Goldman Sachs and Morgan Stanley, is both smart and disciplined. At Southwest, where the pet photographs on the walls and the Bermuda shorts and flip-flops belie an aggressive and results-driven culture, he also has a couple of advantages that competitors don’t: An investment grade credit rating, which makes it far easier for Southwest to borrow, and more than $1.5 billion in cash and equivalents.
“Over the next 12 months, another two billion gallons of jet fuel is going to be burned. So we’re either going to pay market price for that jet fuel, or we’re hopefully going to get something less than that,” he says.
The commodity has dropped a bit in the first month of the new quarter, but there’s a long summer still to come.
Follow Kate Kelly on Twitter: @KateKellyCNBC
Editor's Note: The post originally stated that Southwest had a string of losing quarters — the carrier’s first in 36 years. This has been corrected and now reads: Southwest had a string of losing quarters — its first in a number of years.