Why is the crude oil price important?
Fuel cost is the largest cost component for airline companies. Jet fuel is produced by refining crude oil. As a result, jet fuel prices follow the trend in crude oil prices. Price deviations could be caused by a changing refinery cost trend or differences in demand for jet fuel and crude oil.
Due to rising crude oil prices, fuel cost as a percentage of total operating expenses increased from 14% in 2003 to 30% in 2013. In 2013, Delta’s (DAL) fuel cost—as a percentage of total operating cost—was 33%. United’s (UAL) fuel cost was 34%. American’s (AAL) was 35%. JetBlue (or JBLU) and Southwest’s (LUV) fuel cost was ~37%.
Trend in airline fuel consumption and cost per gallon
According to the Bureau of Transportation Statistics (or BTS), in the first eight months of 2014, U.S. airline industry fuel consumption increased by ~2% year-over-year (or YoY). Cost per gallon decreased to $2.93 in August 2014—a decrease of ~2% YoY.
Cost per gallon will decrease because crude oil prices are expected to fall in 2014 and 2015. This will have a positive impact on transportation exchange-traded funds (or ETFs)—like the Shares Transportation Average ETF (or IYT) and the SPDR S&P Transportation ETF (XTN).
Airlines can reduce fuel consumption by replacing older aircraft with new fuel-efficient aircraft, reducing aircraft weight, using winglets. Cost per gallon depends on fluctuations in crude oil prices. As a result, airlines have tried to reduce fuel risk by using derivatives.