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Fuel Oil Outlook

Heating season is upon us. What do veteran industry observers anticipate in terms of demand, supply and prices?



‘Weather is the major determining factor right now as we survive the rest of hurricane season and then start heating season,” said Linda Rafield, senior oil analyst for Platts, a division of the McGraw-Hill Co. Figures reflecting overall demand for petroleum have been ‘very weak,” Rafield observed. ‘If they stay that way we’re heading for the biggest decline in petroleum demand in 28 years.”



‘There will be a blip up as heating oil moves out of primary storage through the distribution system at the start of winter,” Rafield said. ‘Beyond that I don’t know if we’re going to get an up-tick in demand given the current economic environment.”



Price-shocked consumers are expected to do what they can to conserve heating oil, industry observers said, though to what degree that will affect demand remains to be seen.



A long-running trend affecting demand is the decrease in the number of households using heating oil, said Brian Milne, refined fuels editor for DTN, which provides news and market information on refined fuels, commodities and futures trading.



Every four years the Energy Information Administration (EIA) issues a report on overall demand for heating oil, including the number of housing units that use it. The most recent report, which came out last spring, covered through 2005 and showed that the number of customers using heating oil in the United States continues to shrink, Milne said. Households using heating oil numbered 7.7 million, or 6.9 percent of overall housing.



‘That’s down,” Milne said, contrasting it with the EIA’s data for 1980, which he said showed 13.4 million households, representing 16 percent of all households at that time, had used heating oil.



The latest report showed that of the 7.7 million households, 6.2 million ‘ 81 percent ‘ are in New England and the northern Mid-Atlantic region. Natural gas has been the big beneficiary, he said, growing rapidly in the area.



On the supply side, more stringent requirements for distillate fuels ‘ including diesel and jet fuel that is not made from kerosene, as well as heating oil ‘ are having a telling effect, Milne noted.



Since June 2006, most of the country has been required by federal regulations to use ultra-low sulfur diesel (ULSD) as opposed to low sulfur diesel. For example, ULSD has been required in on-road vehicles since then, Milne said.



In June 2007, Milne said, ‘another prong of the EPA mandate” went into effect, requiring lower sulfur content in fuel used by the non-road, locomotive and marine (NRLM) segment.



Those users had previously been allowed to use a fuel with higher sulfur content, Milne said. That meant overall demand for fuel with higher sulfur content came from more than one quarter: the non-road, locomotive and marine users, as well as those who used it for home heating. Because the NRLM segment can no longer use the higher sulfur product, demand for it has decreased, and in turn, it is recognized by suppliers as a smaller market.



‘Supply of that high sulfur material has been diminishing because there’s less demand,” Milne said. ‘There is less of a pooled demand for that type of fuel, so refiners have been cutting back on producing product with higher sulfur content ‘ and that’s heating oil.”



That the overall supply pool has been reduced ‘provides upward support for pricing because there is less supply available and less room being made at wholesale terminals where it will eventually make its way to retail level,” Milne said.



Figures compiled by the EIA paint the picture. In August, the nation’s heating oil stock, which is 500 ppm sulfur content or above, was at 4.1 million barrels or 10.5 percent below a year ago, according to EIA statistics. The EIA statistics for the Eastern seaboard, which includes New England and the Mid-Atlantic region, showed that heating oil stock was down almost 13 percent compared to a year ago. That trend started to emerge after the phase-in of the June 2007 sulfur reduction measures and has continued in 2008, Milne said.



Pricing, meanwhile, remains subject to a variety of ongoing influences and circumstances.



‘Something that keeps heating oil prices high and sometimes has been a bone of contention with heating oil distributors in the Northeast ‘ as well as truck drivers all over the country ‘ is that the heating oil futures contract which trades on the New York Mercantile Exchange is used as the benchmark for setting not just heating oil prices, but also prices for diesel fuel itself,” Milne said. That state of affairs results in ongoing friction between two parties with opposing interests.



‘Heating oil distributors will argue, when the economy is doing really well and diesel demand is real high, that it unfairly pushes the price up for heating oil customers,” Milne said.



For their part, truck drivers watch factors in the transportation industry, and feel those factors should be considered to help price diesel fuel, Milne noted. Further, because the diesel price is linked to a heating oil contract, it has a volatility that comes with changeable weather, Milne added.



Predicting where prices might peak in the coming season is tricky, Milne said, because of the competing factors at play.



‘On the one side, supply is trending lower, and that should support prices,” he said. ‘On the other side it’s always tricky to gauge demand. Forecasts are that this heating season should be a bit cooler than last year, so that should offer some pricing support ‘ pull more demand.”



Global demand hasn’t let up this fall as much as might have been expected, according to Rafield of Platts.



‘There still is a very strong pull in global markets on middle distillates,” Rafield said. A drop-off in demand occurred after the Olympic Games, for which China had been hording diesel supplies, Rafield said, ‘but heating oil stocks in that part of the world are historically low. They need to replenish.



‘Latin America has still provided a source of strong demand for power generation,” Rafield said. ‘And even though that should have tapered off with the end of their winter, they are still looking to replenish their own stocks.”



Milne added that export demand has potential to support U.S. heating oil prices in the coming season.



‘We’ve seen heating oil fuel and diesel being shipped overseas,” Milne said. ‘That rate has been increasing over the past few years.”



Exporting has been a trend because of various developments in different markets around the world, according to Milne.



‘What we don’t always realize here in the U.S. is that prices are cheaper than in other parts of the world,” he said. ‘The rest of the world uses a lot more diesel and distillate fuel and heating oil grade fuel than we do.”



Through the summer, demand in Asia, where prices are much higher than in the U.S., helped fuel the export market, Milne said.



Europe figures as an export market for U.S. product too, Milne said. Europe had been getting heating oil from Russia, but continued reliance on that source has been complicated by the implementation of new environmental regulations, Milne said. The Russian supply is relatively high in sulfur content, he said, and as a result, European markets are turning to the U.S. for heating oil.



Based on his monitoring of the heating oil futures contract, Milne said, ‘We’ve got some upside price potential right in the $3.45, $3.50 area. We could go back and test four dollars. We did that earlier in the year. On the down side I think there’s some really strong support around the $3.05 area to $3 area, maybe as low as $2.80.



‘That’s my price forecast.” 

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