Riding the Waves: Dual-Fuel Vessels and Fuel Price Hedging in Shipping

ACTUALIDAD - 29-05-2024

Riding the Waves: Dual-Fuel Vessels and Fuel Price Hedging in Shipping

Maritime sustainability has become an increasingly critical concern in recent years. Conventional marine engines, predominantly reliant on fossil fuels, have proven to be major contributors to environmental degradation. As regulatory pressures increase, the maritime industry has embraced new alternatives, one of which is dual-fuel engine technology.

Dual-fuel engines are capable of operating on a combination of two fuels, typically a mixture of LNG and conventional liquid marine fuels. By using LNG as the primary fuel, greenhouse as well as CO2, nitrogen oxides and sulphur oxides emissions are drastically reduced.  Such fuel flexibility enables compliance with emission regulations in controlled areas, while giving operators the option of determining the fuel according to cost and availability.

Sure, LNG is the eco-friendly alternative, but its price can be very volatile, influenced by all sorts of factors. When LNG prices surge compared to MGO prices, using LNG as a primary fuel becomes less cost-effective, potentially eating into the company's profit margins. However, if the company has bought swaps to hedge the price of LNG, they are protected from the full brunt of the price increase. What’s more, the combination of dual-fuel engines with this hedging strategy gives shipping companies a big advantage: If LNG gets too pricey, they can switch to MGO and benefit from the price difference of the two fuels as well as the positive payoff of the swaps bought to hedge their LNG exposure.

An example of such situation can be found in Europe during the Ukraine war. In August 2022, at the peak of the war, natural gas prices rose above 300€/MWh. At the same time MGO prices in Rotterdam were around 1100$ per metric tonne, which is approximately 100€/MWh[1]. A shipping company could have hedged its exposure to LNG for around 20€/MWh as post-covid TTF prices moved around that mark. If the company had a dual-fuel engine, it could then go to the market and use the 280€/MWh positive payoff from the swap to buy MGO at 100€/MWh, directly pocketing the 180€/MWh difference. Even if the average prices of around 180€/MWh for the gas and 90€/MWh for the MGO for the year 2022 are considered, the 90€/MWh difference and thus the benefit from this operation is still quite material.

Another less favourable example can also be considered, where the shipping company buys a swap amid the price spikes to protect itself from an even greater increase. As the price of the MGO was lower than the price of the gas, it would be reasonable for the company to fix the MGO price. Of course, if the company bought a swap fixing the MGO price at 100€/MWh, the swap would return a negative payoff as prices started to drop at the beginning of 2023. For instance, taking today’s MGO prices as a reference (730 $/metric tonne ≈ 64 €/MWh), the loss from the swap would mount up to 36€/MWh. However, as the price of the natural gas has significantly dropped to 34€/MWh, a dual-fuel vessel could switch to natural gas, mitigating the loss generated by the swap.

The effectiveness of this hedging strategy is favoured by the low correlation between LNG and MGO prices, as it increases the likelihood of one fuel's price rising while the other remains stable or decreases. In such instances, dual-fuel engines paired with hedging strategies offer the potential for significant profits as well as valuable protection against adverse price fluctuations, enabling shipping companies to manage fuel price volatility more effectively.

At Axpo, we specialize in providing tailored hedging solutions for gas price volatility, helping you navigate the energy markets with confidence. Partner with us to optimize your energy consumption strategy and safeguard your financial performance. Contact us today to learn more about how our energy trading services can benefit your operations.


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[1] The conversion factor assumes a EUR/USD exchange rate of 1.08