Heating Oil

Heating oil is a petroleum product. Heating oil is also known as No. 2 fuel oil and accounts for about 25% of the yield from a barrel of crude oil. That is the second largest “cut” after gasoline. The price to consumers of home heating oil is generally comprised of 42% for crude oil, 12% for refining costs, and 46% for marketing and distribution costs (source: EIA’s Petroleum Marketing Monthly, 2001). Generally, a increase in the price of crude oil translates into a 2.5-cent per gallon rise in heating oil. Because of this, heating oil prices are highly correlated with crude oil prices, although heating oil prices are also subject to swift supply and demand shifts due to weather or refinery shutdowns.

The primary use for heating oil is residential space heating. In the US, approximately 8.1 million households use heating oil as their main heating fuel. Most of the demand for heating oil occurs from October through March. The Northeast region, which includes the New England and the Central Atlantic States, is most reliant on heating oil. This region consumes approximately 70% of US heating oil. However, demand for heating oil has been dropping as households switch to a more convenient heating source like natural gas. In fact, demand for heating oil is down by about 10 billion gallons/year from its peak use in 1976 (source: American Petroleum Institute).

The US has two suppliers of heating oil, domestic refineries and imports from foreign countries. Refineries produce approximately 85 % of US heating oil as part of the “distillate fuel oil” product family, which includes heating oils and diesel fuel. The remainder of US heating oil is imported from Canada, the Virgin Islands, and Venezuela.

Recently, a team of Purdue University researchers developed a way to make home heating oil from a mixture of soybean oil and conventional fuel oil. The oil blend is made by replacing 20% of the fuel oil with soybean oil, potentially saving 1.3 billion gallons of fuel oil per year. This soybean heating oil can be used in conventional furnaces without altering existing equipment. The soybean heating oil is relatively easy to produce and creates no sulfur emissions.

The “crack-spread” is the processing margin earned when refiners buy crude oil and refine it into heating oil and gasoline. The crack-spread ratio commonly used in the industry is the 3-2-1, which involves buying 1 heating oil contract and 2 gasoline futures contracts, and then selling 3 crude oil contracts. As long as the crack spread is positive, it is profitable for refiners to buy crude oil and refine it into products. The NYMEX has a crack-spread calculator on their web site at www.nymex.com.

Heating oil futures and options trade at the New York Mercantile Exchange (NYMEX). The heating oil futures contract calls for the delivery of 1,000 barrels of fungible No. 2 heating oil in the New York harbor. In London, gas/oil futures and options are traded on the International Petroleum Exchange (IPE).

Prices – NYMEX heating oil futures prices on the nearest-futures chart posted a record high (going back to the 1982 start of the NYMEX futures contract) of .31in February 2003 in conjunction with the Iraq war, but then quickly fell back as it became clear that the Iraq war would be short and would not create major oil supply disruptions in the Persian Gulf and Middle East. Heating oil prices then entered a sustained rally in Q3-2003 and closed the year at 91 cents, little changed from the 2002 close of 92 cents. Still, heating oil prices closed 2003 at the upper end of the price range seen over the last 20 years. Bullish factors were basically the same as for crude oil (weak dollar, higher global economic growth, tight inventories) but were also boosted by a cold start to winter which boosted demand for heating oil in the northeastern US which is the primary consumer of heating oil for home heating.

Supply – Production of distillate fuel oil in the US in 2003 averaged 3.7 million barrels per day, up 3.0% from 3.592 million in 2002. Stocks of distillate fuel oil in October 2003, the latest reporting month, were 130.9 million barrels, up from 124.4 million barrels in December 2002. US production of residual fuel in 2003 rose to an average 657,000 barrels per day, up 9.2% from 601,000 in 2002. US stocks of residual fuel oil in July 2003 rose to 35.6 million barrels from 32.7 million a year earlier.

Demand – US usage of distillate fuel oil in the US in 2003 averaged 3.944 million barrels per day, up 4.4% from 3.776 million in 2002.

Trade – US imports of distillate fuel oil in 2003 rose to an average 337,000 barrels per day, up 26% from 267,000 in 2002. US exports of distillate fuel oil in 2003 fell slightly to 109,000 per day from 112,000 in 2002.