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Asia biodiesel makers warily hedge growing risks
calendar02-02-2007 | linkReuters | Share This Post:

29/1/07   SINGAPORE, (Reuters) - Asia's big biodiesel producers are starting to secure their green investments by hedging against falling oil prices and rising feedstock costs, but the move may carry even bigger risks for infant players.
   Oil's brief dip below $50 a barrel this month highlights a risk that could scupper the emerging industry and douse hopes that such domestic fuels will replace Asia's costly oil imports.
   Producers can hedge commodities such as palm oil or sugar, as well as end products, against mineral oil. But crop growers with little experience of opaque financial derivatives are shying away from locking in forward prices on a market lacking biodiesel futures, which leaves products carrying basis risk.
   "They should hedge the feedstock components on one side, then as crude prices go up, the margin and cost effectiveness of biodiesel tends to look more attractive," said Tom James, Chair Professor at the University of Petroleum and Energy Studies in India.
   "They then want to hedge against a sudden and sustained drop in crude prices, probably through some derivatives options on crude oil or gas oil or gasoline prices."
   Growing energy teams at investment banks around Asia are looking to capture increased demand for fuel hedging from consumers such as transport firms and producers such as oil refiners or the new breed of biofuel makers.
   To prevent further erosion of profits from tumbling oil, Australia's Natural Fuel hedged half its annual biofuel output from its Darwin plant, at $75 a barrel till April 2008.
   "If we hadn't hedged any output, the result would probably have been worrying, but our hedging policy would have given us some insulation," he said during a Reuters summit on biofuels.
   The firm plans to build one of Asia's largest biodiesel plants, a 600,000 tonnes per year (tpy) facility in Singapore with the potential to triple production in a few years.
   A four-year oil rally to near $80 a barrel in 2006 and fears over climate change from burning fossil fuels, have spurred investments in alternative fuels, with oil import-dependent countries worldwide aiming to boost biofuel output.
   But a third has been wiped off oil prices since a July peak, leaving some projects in doubt as analysts point to $50 crude oil as a minimum threshold for biofuel viability.
   Diesel <GO-SIN> has fallen 30 percent to about $65 a barrel since record highs of around $90 last July, leaving biodiesel looking costly and in potential need of subsidies, analysts say.
  
   SOFT COMMODITY BOOM
   The impact of demand for biofuels has been stronger in soft commodities markets, where prices of corn and sugar have been driven higher, than in energy where biofuel supplies are still tiny in the 85 million barrels per day (bpd) oil market.
   Futures prices of palm oil -- the main raw material for biodiesel in Southeast Asia -- cost about $535 a tonne last week, up 30 percent on the year-ago period, leaving producers pinned between rising feedstock costs and falling product prices.
   "It's no longer viable to use palm oil to make biodiesel. The change has been dramatic since November and prices are no longer globally competitive," said John Hall, managing director of commodity trading firm Peter Cremer.
   Peter Cremer plans to start two biodiesel plants in Singapore and Malaysia this year but will likely see production capacity of both 100,000-tpy plants at only 40-50 percent.
   "Eighty-five to 90 percent of the cost of biodiesel is in the feedstock, so they would like to hedge it here," said Ibnu Bromono at FACTS Global energy. "For hedging the product, they are very much interested in NYMEX or European bourses."
   The New York Mercantile Exchange (NYMEX) launched new sugar contracts in December, while Euronext.liffe started rapeseed oil futures in Paris this month. But the industry is still three to five years away from seeing its first biodiesel contract, a Chicago Board of Trade official told Reuters.
  
   RISKS
   Hedging of biodiesel against crude or gas oil among biodiesel players in the region have been limited, as most producers are concerned with logistical and financial commitments. Others look to control costs via long-term feedstock supply contracts.
   Singapore-based CMS Resources Pte. Ltd is focused on acquiring land in Indonesia for production, instead of hedging on markets that will not fit exactly with its product.
   "It's like hedging apples with pears and the interest rate is a killer... We've crunched the numbers," Georges Mercadal, director of CMS Resources Pte. Ltd, told Reuters.
   Bigger players with secured feedstocks such as Wilmar International Holdings <WLIL.SI>, which plans to build three plants in Indonesia with output capacity of 1.05 million tonnes by this year, have shown interest in hedging, industry sources said. Wilmar declined comment.
   The risks from hedging is seen in the experience of British firm Biofuels Corporation Plc <BFC.L>, which used a fixed-price swap in April 2005 to protect production, expecting revenues to be linked to price movements in ultra-low sulphur diesel.
   The swap was scrapped later that year, costing it some 50 million pounds ($98.52 million).
   "It could have been worse had the swap continued into 2006 with its record highs," a company source said.
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