The Sleeper – Distillate Fuel

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This has been one of the coldest winters in the US in a long time. Nat Gas prices have been exhibiting very high levels of volatility reminding many of the pre-shale revolution days. Even Propane has been in surge mode as inventories throughout the mid-west have declined strongly. Weather along the North East coast… the primary heating oil market has been hit with several arctic blasts or as some like to describe it as the polar vortex descending south to the US. Even with the strong winter like weather heating oil prices at the futures market level have not acted anything like what we have seen in the Nat Gas and Propane markets.

Not only is heating oil consumption above normal along the east coast but exports of its sister fuel… diesel have been robust and consistently averaging above the 1.3 million barrels per day level for months. The following chart compares the current total US distillate fuel inventory level with last year, the five year average as well as the 24 year average (since EIA has been reporting distillate inventories on their website).

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The current inventory level is not only below last year and the five year average it is well below the 24 year average and at the lowest level for this time of the year going back to 2001. If the rest of the winter season remains colder than normal the end of the season inventory level could be approaching the 100 million barrel area or a level not seen since the end of the 2002/2003 winter heating season (end of March).

With an inventory profile described above one would expect this year’s Nymex futures pricing pattern to be well above last year at this time. The next chart shows that the current price level is well below where it was last year even though the inventory situation is below all of the historical comparisons as well as below the so called normal operating level for the same timeframe.

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So what gives and why are HO futures prices trading as they are? First and foremost I believe market participants do not feel that supply is an issue… even with cold weather as imports from Europe (gasoil stocks are plentiful) have been moving toward the USEC recently. Current distillate fuel imports have been ramping up over the last several weeks and are running above last year’s levels for the same timeframe. In addition with the US exporting over 1.3 million barrels per day of diesel there is ample supply that could be downgraded to heating oil and shifted to the USEC if the requirement is there and the economics make sense.

Finally, unlike the Nat Gas or Propane markets the US does have a strategic home heating oil reserve. The Northeast Home Heating Oil Reserve… managed by the DOE currently has 1 million barrels of heating oil split equally between two locations… Groton, Ct and Revere, Ma. If needed… supplies would quickly be released by the DOE. So far this has not happened this winter. The last time the reserve was used was in 2012 after Hurricane Sandy hit the east coast.

Since the run-up in prices over the last four or five days of the expiring February HO contract the new spot March contract is currently trading about $0.29/gal or 8.8 percent below the high hit on expiration day (Jan 31st) of the February Nymex contract. Since March has become the spot contract the market has been trading in a tight sideways range for the last four sessions.

With two months left to the official winter heating season (and what many would say the worst of the winter is now in the history books) it currently looks like heating oil prices going forward are not likely to move into a sustainable surge mode unless the market is hit with yet another extended arctic blast and/or unforeseen refinery problems emerge during the remainder of the first quarter.

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