Energy Trading and Risk Management

While everyone would like to hedge their financial risk through trading in derivatives, it can certainly prove to be tedious and impractical for individuals with a low amount of capital to engage in such activity. Reason being, corporations have the financial resources and the human assets, specializing in the area of risk management and specific industries such as Oil and Gas. For this reason they are in a better position to be able to predict future volatilities in the commodities market and engage in energy trading and associated derivatives accordingly.

It is more relevant for companies that are using oil and gas as a raw material, such as refineries or electric power distributing companies to stay abreast with movements in the market since a significant portion of their profit and loss statements is dependent on the cost they book on these commodities. While sources like Global Energy Post tell you what is happening around the world, it is also important to consider the internal workings and challenges of the company and deploy a risk management solution accordingly.

Companies where market prices of their end petroleum related products are regulated by the government will be unable to pass on any cost increases to their consumers, hence they will have to mitigate their challenges in-house to be able to protect themselves against fluctuations in the market. Whereas companies that can easily pass on their price increase to the customers will be slightly more relaxed since they can ensure consistent profit margins. Moreover, such companies can bank on the fact that the elasticity of the demand for products that are derivatives of petroleum is relatively low, hence price movements will be absorbed by the consumers to a large extent. However, demand is edging towards a more elastic structure since alternative sources of energy are being developed and promoted. For example, consumers purchasing more and more hybrid cars will be less reliant on petrol hence their purchases will reduce gradually and their demand for the fuel will be more elastic in nature. Considering the above, persistent approach to effective risk management when trading in derivatives related to oil and gas will come in handy in the long term for organizations.