As heating season sets in, Fuel Oil News takes a look at the anticipated prices for the fall of 2010 and spring of 2011. So far the suggestion is that prices should remain fairly stable and maybe drop a bit more. However, prices have become increasingly disconnected from traditional metrics tied to supply and demand with a dramatic increase in the influence of commodity investing. And with the economy being uncertain in so many areas that impact the range of investing options ‘ anything can certainly happen.
Looking at the basics, the core factor in all petroleum-based fuel prices is the price of crude oil. Supply and production remain solid, and there is still a global recession at work driving down demand. Although there has been some economic turnaround in specific countries, including some slight recovery in the United States, oil prices should rise, but not undergo any dramatic increases due to traditional supply and demand influences.
The U.S. Energy Information Administration’s latest Short-Term Energy Outlook forecasts a reduced U.S. real gross domestic product (GDP) growth of 2.8 percent for 2010 and 2.3 percent in 2011, compared to previous growth projections of 3.1 and 2.7 percent for 2010 and 2011, respectively. EIA also sees the 2011 world oil-consumption-weighted real GDP growth rate increasing but lowered to 3.3 percent from a projected 3.6 percent level.
EIA expects world oil prices to rise slowly in 2011. According to the EIA, the end result should be a West Texas Intermediate spot price that will average $77 per barrel in the fourth quarter of 2010 and $82 per barrel in 2011.
Of more immediate note at this point are the supply and demand factors relative to refined products, in this case No. 2 heating oil.
Heating oil prices
While EIA does not have a heating fuel breakout yet, the projected total liquid fuels consumption is to have grown in 2010 compared to a trend of falling consumption during 2006-2009. Distillate consumption is projected to have grown by 2.0 percent by the end of 2010. Growth will continue in 2011, but at a more moderate pace with distillate fuel coming in at 0.7 percent.
Demand is continuing to grow, but there is currently abundant supply on hand.
‘We have more oil than we’ve had in probably three decades. And if it were not for our good friends ‘ investors ‘ I believe the price of heating oil should be somewhere between $0.50 and $1 on the wholesale level based upon the fundamentals we are seeing right now,” said Peter Beutel, president and founder of Cameron Hanover and chief editor of the firm’s Daily Energy Hedger. ‘The fundamentals are worse than in 1986 when we reached something like $0.30 cents per gallon. But in any event that is not our reality.”
He noted that, in simple terms, investors are valuing oil in terms of gold. In essence they are saying oil was $300 when heating oil was $0.50, so if gold is now $1,200 it makes sense that heating oil should be $2 at wholesale.
Long term potential factors like peak oil (always controversial) and a notable rise in Chinese or India fuel consumption (almost assumed) would put strain on the current petroleum infrastructure, but Beutel does not see that notably coming into play until 2014-2018.
‘I guess what I would say for this heating season, from now until spring, it is unlikely that we will see much more than a 20-cent move higher or a 30- to 40-cent move lower than where we are right now,” Beutel said. ‘But there is an outside chance I think that this year we could see a significant move lower, in addition to all of the other risks in the other direction like a very cold winter or something happening in the Middle East or even a hurricane before then and we get a 50-cent spike. But even then with the amount of oil we have in the market a 20-, 30- or 50-cent spike will have a hard time lingering.”
Beutel cautioned trying to lock something like a $1.75 wholesale prices for five years because he believes there could be prices $1 again. ‘I don’t know when ‘ I don’t know what that magic spur is going to be,” he said. ‘But it could be linked to a factor like interest rates, the price of gold or other economic factors.” (See sidebar for more discussion.)
Natural gas prices
For comparative purposes, the Energy Information Administration projects the Henry Hub natural gas spot price to average $4.54 per million Btu (MMBtu) for 2010, a $0.60-per-MMBtu increase over the 2009 average. EIA expects the Henry Hub spot price will average $4.76 per MMBtu in 2011.
Both gas supply and demand are projected to increase moderately through 2011, according to EIA. While natural gas in storage is down slightly from 2009, it is still above the 5-year (2005-2009) average.
‘The production models are suggesting continued growth before it turns lower at the end of the year, but that pretty much locks it in for this winter,” said Brad Smith, price risk manager for U.S. Energy Services, based in Minneapolis. U.S. Energy Services offers a portfolio of energy management services, including supply procurement and management, price risk management, plant site development, information services and renewable initiatives. ‘So if the forecasts hold and we are expecting a mild October and a mild winter based upon La Nina effects my overall view is that prices are going to have a very difficult time maintaining (NYMEX futures) prices above $5 per MMBtu. I would forecast prices in the range of $4.25 to $5 per MMBtu in the winter. November ‘ March futures contracts are trading about $4.45 which is down from last winter. Most of that is based upon production growth and continued drilling and capital continuing to flow into producers.”
Stock art of oil storage tank farm
EIA Price Summary
WTI Crudea ($/barrel)
Heating Oild ($/gal)
Natural Gasd ($/mcf)
a West Texas Intermediate. b Average regular pump price.
c On-highway retail. d U.S. Residential average.
A Longer Look Ahead At Prices ‘ Oil vs. Natural Gas
Obviously, a core issue in the competition between natural gas and oil as the heating fuel of choice hinges on market availability. Some areas are just not served, making natural gas not an option. In competitive areas there are a number of considerations in this consumer choice, with price having a definite impact.
Fuel oil has traditionally been more than competitively priced. However, the price shock in 2008 was devastating in both real and psychological terms. Fortunately natural gas has not been immune to higher prices. And now, lower prices and some degree of price stability have returned.
However, long term there are some notable changes occurring in the competitive relationship. A real concern for oil marketers, and something to be watched moving ahead, has been the transformation of the domestic natural gas industry relative to shale deposits and new production techniques.
The ability to efficiently exploit shale reserves has radically changed the market since 2009, noted Brad Smith, price risk manager for U.S. Energy Services. ‘Producers have found a new way to be more efficient in their production processes though more accurate and deeper drilling, the ability to control the drill bit, the ability to more easily transport the drill rig or operate multiple bores from a single pad ‘ almost endless ways so that for every dollar spent you get more gas out of the ground,” he said. ‘The efficiency has just increased over and over and over with this is relatively new technology. And on top of that they just keep finding new basins where gas is available so has been transformed from an industry where there is a huge amount of cost associated with finding gas ‘ which has pretty much gone away ‘ to now where you are mainly dealing with the production costs. So that should decrease volatility and increase supply stability.”
And natural gas certainly has increased demand expectations in coming years in areas from electricity production to its use as a motor fuel. And oil customers still get to shop around for price in a competitive marketplace, where utility customers have far more limits.
Although there is nothing quite as exciting on the oil front as the shale reserves, oil prices need not stay high. So much depends on the more artificial influence of pure commodity investors and the whims that accompany that investing decision.
‘When is this (market) madness going to stop, or is it just the new world we live in?” said Peter Beutel, president of Cameron Hannover, an energy risk management firm in New Haven, Conn. ‘I don’t really believe in commodities that you come to new worlds where all of sudden there is a new paradigm and it stays there for 100 years. I think you do get these five or 10 year aberrations and then it does return. I believe that if we all stay healthy we will see $0.99 heating oil delivered to people’s homes.”
Beutel noted that any worsening of the economy or a rise in interest rates opening other investment opportunities could lead to a sudden sell out with prices dropping to under $1 on the Nymex.