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What is a Capped Oil Price Plan?

Date: March 15, 2018

If you are reading this and it is June, it is that time of year again. Planning for winter has already begun in many industries including retail oil heat. Dealers have spent countless hours planning and purchasing oil now that won’t be delivered for almost a year. If you are thinking “boy that’s risky, no one knows how much heating oil will cost 7 months from now”, you are correct!

Volatility

price planHeating oil prices can be extremely volatile. Of course, the economics of supply and demand dictate prices to a large extent however, Geo-political events, interest rates, speculators and more impact prices too. So, if you heat your home with 13940923_063532_737_2.jpgoil it is important to understand common pricing plans.

2 Price Protection Plans

In order to understand a Capped Oil Price Plan you first must understand a Fixed Oil Price Plan. An example of a Fixed Oil Price is the following: An oil dealer, through a wholesaler and on behalf of his/her customers, purchases a specific number of gallons at a specific price, that is determined by a commodity exchange ie. NYMEX, to be delivered during a specific time period. The dealer then adds desired profit to the cost to set a retail fixed price.

Regardless of prevailing prices at the time of delivery, the Fixed Price does not change. In a perfect world the oil dealer is satisfied as he/she has locked in margin/profit while the consumer is satisfied as he/she will not be exposed to high spot market oil prices. However, a Fixed Price Plan is not perfect. What if the price you and your dealer agreed to 7 months ago is now $0.80 per gallon higher than what your neighbor is paying on the spot market? Chances are you might get very upset. In fact, some consumers might even try to cancel their fixed price contract and leave the oil dealer stuck with expensive oil.

Alternatively, a Capped Oil Price Plan offers the customer the best of both worlds. These plans, although somewhat expensive, cap or maximize the price one could pay per gallon in a skyrocketing market. However, if the oil dealer’s posted retail price on the day of the delivery is less than the capped price, the customer pays the posted retail price. The dealer accomplishes this by purchasing financial instruments that will reimburse him/her for the financial loss incurred when he must purchase oil at $0.80 per gallon more than spot price. He passes the reimbursement on to his customer. These financial instruments are paid for with funds collected for a”Cap Fee”.

Conceptually, this is similar to insurance in that there is a fee to participate and if spot prices do not exceed the capped price, the customer is not reimbursed the Cap Fee. Similarly, if you do not have an insurance claim your premium is not refunded.

In summary, a Capped Price Plans offer consumers the best of both worlds. Before the heating season begins the customer knows his/her price will not exceed the predetermined Capped Price and may not even reach it. Is a Capped Price Plan right for you?

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