Electric Cars and Energy Price Hedging

By Bill Moore

Posted: 13 Nov 2012

Between 1999 and 2008, Southwest saved approximately $3.5 billion through fuel hedging.

Why I bring up Southwest Airlines will become apparent in a minute, but first let me address J.D. Powers & Associates new study that asserts electric cars don't 'pencil out.'

Really? What took you so long to figure that out?

Of course, they don't, IF you look just at the difference between the cost of the car and any potential savings on fuel by switching from gasoline to electricity, which they do note can be quite substantial: $18 a month for electricity versus $147 for gasoline, on average. It should also be noted that two other studies found several hybrid models do make good financial sense in terms of a faster payback.

J. D. Powers note in their press release:

"Compared with sales prices for a similar gasoline-powered vehicle, the study finds that owners of all-electric vehicles (AEV) pay a premium of $10,000, on average, for their vehicle, while plug-in hybrid electric vehicle (PHEV) owners pay a $16,000 premium, on average. Based on annual fuel savings, it would take an average of 6.5 years for AEV owners to recoup the $10,000 premium they paid at the point of purchase, while the payoff point for PHEV ownership is 11 years."

Because of this "premium," they conclude that all electric and electric hybrid (plug-in) cars will see little serious market penetration. They stress:

"The payback period is longer than most consumers keep their vehicle," said Oddes. "The bottom line is that the price has to come down, which requires a technological quantum leap to reduce the battery price. There also needs to be an improvement in the infrastructure, or the number of charging stations outside of the home. Until those two concerns are addressed, EV sales will remain flat."

That's likely true, but it is based on the assumption that oil prices will remain essentially where they are. The higher the price of oil, the faster the payback, which brings me to Southwest Airlines and its fuel hedging strategy.

There's another way of looking at the price premium on an electric car that is not unlike what the management at Southwest, one of the most profitable airlines in America, has done for more than a decade. When they buy futures contracts on fuel, they are making a strategic, long-term bet on what the price of oil, and therefore jet fuel, will be months in the future. While in the short run, fuel prices can expect to, and have, fluctuated both up and down, the general long-term trend has been ever-higher, except in the wake of the 2008 economic collapse. What applies to jet fuel also applies to gasoline. Buying an electric car, either all-battery like the Leaf, or electric hybrid like the Volt, also can be seen as a hedge against rising oil prices.

One way to look at it is when you buy a battery-dominate plug-in car, you're paying for a significant fraction of the car's energy in advance in the form of the battery pack. A gasoline car off the lot comes with a couple gallons of fuel -- roughly equivalent to around 60kWh of electricity -- and a largely empty steel tank that must be regularly replenished at whatever the daily price of gasoline is. There is no hedging on the price at the pump: it is what it is, take it or leave it. By contrast, much of the energy potential of the electric car is already incorporated into the vehicle when you buy it, and the savings on the fuel reflect this: $18 versus $147 a month.

However, as J.D. Powers & Associates observes, if you're looking to save money on fuel buying an electric car, you need to realize that those savings will take longer to recoup at today's prices. But what happens if carbon taxes are passed, even at the state level, say in a state like California? What happens as the price of oil steadily, inexorably climbs higher year after year? The Bakken fields in North Dakota might be booming right now, but it costs $80-90 a barrel to produce, and that oil will eventually go to the highest bidder; that could be Europe, Asia, or the US.

Or consider what happened in the New York metro area in the aftermath of Superstorm Sandy when only bicycles and electric cars were able to get around unhindered.

Certainly, the cost of battery packs needs to come down and will over time, but in the interim, it would seem to make sense, if you can afford it, to hedge your energy bet by going electric.

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