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Derivatives

Airline Protection Jumps On Oil Spike

Credit default swap spreads in the airlines sector widened across the board last week as the market priced in the effect of sharply rising oil prices.

Credit default swap spreads in the airlines sector widened across the board last week as the market priced in the effect of sharply rising oil prices. British Airways was one of the biggest movers, initially jumping 15 basis points to 350bps last Tuesday, up from 335bps last Monday, but the CDS price closed in to 345bps at the end of the week. The price of protection on Deutsche Lufthansa, which hedges nearly all of its fuel costs, also widened slightly, moving to 97bps from 94bps at the beginning of last week.

Traders reported steady trading of protection in the airlines sector with interest from hedge funds, institutional and high-yield funds. Credit default swaps on the airline sector were well-bid in both directions, so there was little change to bid-offer spreads.

Moody's Investors Service rates British Airways Ba1, with a negative outlook, and the ratings agency rates Lufthansa Baa2 with a stable outlook. Standard & Poor's rates British Airways BB plus with a stable outlook, and downgraded Lufthansa in March to BBB from BBB plus, with a stable outlook. Leigh Bailey, analyst at S&P in London, commented that the rise in fuel prices means a higher cost base for the airlines and a slower recovery. Bailey noted Lufthansa has around 90% of its costs hedged, but that it uses caps and floors which limit downside exposure but do not remove it altogether. "Going forward, we're looking for an improvement across the sector," he said. "The ratings are stable as they are, but this [fuel price rise] is a factor that will slow the improvement in the credit profile," added Bailey.

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