Heating Season Fuels Outlook: 2014

Fuel Oil News interviewed several experts for their perspectives on what to expect in the coming months.

Relatively good news is the prediction for fuel prices this heating season. Oil prices should be moderate (by recent standards), propane price spikes and supply issues are not likely to be as big an issue as last year and the weather is likely to be as cold, if not colder, this season. Competitively, natural gas is not expected to see a huge bounce upward in price, but supply issues and higher prices could very well be in order again this year.

On the fuels front, FON was assisted by Alan Levine and Brian Milne.

Levine is the CEO and chairman of Powershouse®, a group of seasoned energy experts and broker professionals working in partnership to meet the business goals of its customers. He is an internationally recognized expert in pricing and business practices in the energy industry. A petroleum specialist for over 40 years, Levine is a highly regarded authority on the relationship of energy futures to cash petroleum markets.

Milne is the editor of Schneider Electric’s MarketWire, a real-time market and news service focused on US oil product markets and relevant news and analysis, and also the editor of OilSpot, a weekly newsletter on the oil markets.

For our weather update, we again went with ImpactWeather’s StormWatch Manager/Meteorologist Fred Schmude. ImpactWeather is a StormGeo Company, and serves as the full-time weather department for hundreds of companies around the globe. Schmude has been on the money the past two years we have included him in this outlook.

As should be noted, none of the projections outlined here are set in stone’we are taking about commodity prices and weather projections, after all. The usual disclaimer about risks and uncertainties certainly applies. Those considering purchasing and hedging should use this as simply a starting point, and not the ending point in the decision-making process.

Crude Oil

The core component in the price of refined fuels centers on crude oil. The various domestic shale fields have been generating considerable supplies of crude oil in addition to natural gas. In fact, U.S. production is now surpassing import volumes with help from shrinking demand. The impact has been lower prices and decreased volatility.

“There is a lot of concern about demand going forward because of the poor economic reports coming out of Europe and China, despite the U.S. optimism in the economy,” said Milne. “The current low for the year was $91.24, which is a support point that we’re likely going to pass shortly, and I do expect us to break below $90. But, I think we’ll have a tough time getting below $85, though you could punch through and pop back up. I would say we’ll be in an $85 to $95 range for the rest of the year. And that’s pretty much true for Brent, the global price, which crunched through $100 for the first time since June 2013. The Ukrainian crisis has not helped as the European economies, such as Germany’s, are being negatively affected. There’s more supply out there, and that weaker economy for Europe is just not helping the cause until we see some price pressure.”

As Milne touched on, world events don’t seem to be having the wild influence they used to have on prices and volatility. That is true even in the face of turmoil in energy hot spots such as the Mideast and Russia. “It seems right now that these events appear to be in a position to have more of a bearish influence, because they are just going to be hurting economies versus disrupting supply.”

Another likely factor in both low prices and reduced volatility is the initial impacts of the derivative reforms under the Dodd-Frank Wall Street Reform and Consumer Protection Act.

“That has absolutely been something,” said Levine. “[Trading] volumes are down. My customers are not affected by Dodd-Frank, but if you look at the market makers and the liquidity there is no question it has made a difference. But, not to such a degree that you can say you don’t have viable markets anymore. On balance, I’m all in favor of the rules and the changes that came about. They are much more protective of the industry and the economy in general. But, sometimes it can be painful getting there.”

Milne generally agreed, but with some reservations. “I have talked to a variety of people over the past few months about this and some have said because there are fewer banks playing and there is less volatility, and I think there is a lot of truth there. But I just don’t know for sure,” he said. “If you look at the open interest for the ULSD contract it’s been at a record high, and earlier in the year for the WTI contract, so you look at it like yeah, but what about this?”

With so many favorable influences, could we see not only low prices, but a significant tumble in oil prices this year? “I think crude has a hard time getting much lower, and the reason for that is that when you start seeing prices going too low you’ll start to see some production shut in,” Milne said.

Heating oil

For heating oil and diesel, the price projection is positive’perhaps too positive.

“Here we are right after Labor Day, and we have a lot of uncertainties on the international scene, and you would ordinarily anticipate that at this time of year we would be at the beginning of a rally in distillates that would bring us some time into October,” said Levine. “Heating oil prices have been range bound for about 4 years, because starting in 2011 we pretty well put in the bottom at around $2.80 and the top around $3.15. Since then we’ve been trading back and forth within that range. In itself that is not really surprising, because we are, after all, developing a lot of domestic supply. That has created a certain amount of complacency in the market, which I think lets us to be less mindful of international affairs than we would have been in the past. At the same time, if you look at the inventory situation here in the United States it continues to be very tight. We continue to remain below the five-year range going into winter, which should move prices higher, but that is not happening to a great degree. This is quite troublesome to me and could create problems.”

Milne largely sees prices at a $2.80 bottom due to key supports in the $2.50-$2.70 range, and a top, while difficult, at about $3.10. He also sees concern with the supply situation. “Supply has been down if you look at a year ago, and you do see a good amount of diesel exports moving upward and you have to look at Europe,” he said. “The weakness in Europe has limited the amount of exports going there, but they are still diesel short overall and gasoline long so there is still a market there.”

Propane

Propane was a mess last year. Part of that was the higher utilization of propane for record-setting crops that were also damp (which according to Milne will not likely be a factor this year). But infrastructure shortcomings in our new U.S. energy world and lack of storage capacity were likely the core elements. Things are looking up in 2014, but issues remain.

“You have the same issues with propane with respect to deliverability, particularly in New England, because of uncertainties about where that supply comes in and how it comes in,” Levine said. “However, there is one difference. If you look at the inventory for propane in February it bottomed out at approximately 26 million barrels, and now we are well over 70 million barrels which is higher than the five-year high of storage for this time a year. It’s a reverse situation compared to heating oil. So I might be a little less concerned about availabilities of propane, but with the caveat about infrastructure problems, particularly as they would affect New England. We have just been hugging $1 as a price for propane for weeks and weeks and weeks. I really don’t think we’re going to see a collapse in the price of propane, though many propane guys are praying for that. And we are seeing a certain reluctance to establish forward positions, but I think in the end we will see those prices recover related to infrastructure difficulties.”

Exports can also come into play propping up prices. “Propane exports out of the United States in August were the highest ever,” said Milne. “About 30% of production goes into exports. The export market will support higher propane prices. If prices go too high you’ll see some of the export cargoes canceled, but I think it will take a lot to get to that place since propane prices in the United States are a lot lower than elsewhere.”

Natural gas

For natural gas, there is plenty of production, but, as with propane, infrastructure issues come into play particularly in the Northeast.

“The gas situation is that even with fewer and fewer rigs in operation, gas production continues to achieve new records and the prices are reflecting that,” Levine said. “It’s been very difficult to get much over $4 per million cubic feet, and right now with the numbers coming out the injections are much higher than people would’ve expected although not as high as one might need to give a good supply situation as of Nov. 1 when that injection period ends. So we may well go into winter with a modestly undersupplied market. Whether or not that will result in a higher price is questionable; as with everything else it’s infrastructure.”

Milne’s predictions see much of the same. “Injections have been fairly strong but right now we have supply down about 15% from a little over a year ago, so you’re going to building right up through October and depending upon how strong that can limit the upside,” he said. “You’re really looking at about a $4 (per Mcf) handle for most of the rest of the year, but that might pick up to $5 if the injection slow down and you get a really cold winter.”

Gasoline

For marketers moving bulk gasoline and/or operating retail stations, gasoline is following a similar patter to crude and distillates.

“Gasoline is now trading the winter spec and it appears to be putting something of a bottom into the market, which is what you would expect this time of year,” Levine said. “Prices may move a little bit lower, but overall we don’t anticipate a collapse in the price and the best thing you can say is that the epitaph for gasoline was premature. As the population ages it drives less, and as younger folks hang out on the Internet they are also driving less. But, the population of the country is growing and sheer demographics are supporting price. And we are close to record levels of consumption here in September, which is unheard of. If there is any surprise in gasoline it’s that it is as strong as it is, and as it has continued to be. We are getting ready to buy gas cracks as a vehicle for people in the retail gasoline sector to offset what should be margin squeezes because of changes at the refinery level. So I suppose we’re more bullish than not.”

Milne noted that refineries have done a pretty good job of managing supply. The United States is exporting gasoline in addition to diesel, and the supply levels of gasoline have been keeping in line with the five-year average. That has helped limit the decline in gas prices.

“The RBOB contract has been pushing the eight-month low,” said Milne. “The $2.50 number should be a support point. You have a series of support points in the $2.40s so getting below that is probably pretty tricky in the short term, but as you go forward you see the contract move lower from Labor Day into November and you could see the contract move down to the $2.25 number.”

Weather

For all of the above product price predictions there was a caveat from both Levine and Milne’a winter as harsh as or harsher than last year will drive prices upward regardless of the fuel. For oil and propane dealers it will also move gallons.

That seems to be the outlook for this winter.

“The forecast we’re looking at now supports the possibility of what we call a meridional wind flow. A lot of the parameters we saw last winter remain intact for the upcoming winter season, and if anything the action may be a little bit more extreme,” said Schmude. “The water temperature anomalies in the eastern Pacific Ocean are well above normal, which tells me that there is going to be a lot of blocking across the northern hemisphere particularly across North America. So, instead of having a west to east flow across North America with milder Pacific air you’re going to have more of a north to south flow from Canada down into the lower 48, which should provide a higher frequency of colder Arctic air similar to what we saw last season. And, it could actually be even little bit colder.”

He predicted that the winter season will get kicked off in the last two weeks of November and persist through February, if not end of March. Temperatures will most likely be below to much below normal (4°F to 8°F), with the coldest air across the Tennessee and Ohio Valley’s and across the Great Lakes into New England.

As with last year, he predicted milder weather in the Pacific Northwest, with temperatures 2°F to 4°F above normal.

“So we should see a similar winter to last year, but what I’m concerned about is that we may be getting into a pattern similar to what we saw in the late 1970s,” Schmude said. “So we could be seeing, at times, some historic cold.”