In petroleum markets, October is typically the time when attention shifts from transportation fuels to heating fuels. Strong global distillate demand and refinery outages have supported prompt distillate prices relative to those in the future. In its October 2012 Short-Term Energy and Winter Fuels Outlook the U.S. Energy Information Administration (EIA) is projecting that retail heating oil prices will average $3.80 per gallon this winter (October-March), which would be $0.07 per gallon above last winter's average of $3.73 per gallon, and the highest on record. Historically, heading into winter, heating oil prices for future delivery are higher than those for current delivery, encouraging inventory builds. However, this year, prices for future delivery are below current prices, so there is little if any incentive to buy product now and store it for sale later in the winter.
As the northern hemisphere prepares for winter, the demand for distillate fuels is typically strong as consumers fill tanks in preparation for the heating season. This year, as has been the case for the last several years, the seasonal increase in demand is occurring against a backdrop of tight global distillate markets in which supply and demand centers are geographically mismatched. Europe and Latin America produce less distillate fuels than they consume and have been relying on supply from the United States, mostly exports from the U.S. Gulf Coast. This trade has been mutually beneficial because it has provided U.S. refiners with an attractive market that has encouraged high refinery utilization, which also has supported the production of additional gasoline.
The tightness in global distillate markets is reflected in both the futures market prices and inventory levels in the United States. While U.S. distillate production is high, the global supply-demand balance for distillate fuels has created a price structure that has not encouraged inventory builds. In recent weeks, prompt prices for distillate fuel have risen compared to prices for fuel delivered in future months. For the week ending October 5, distillate inventories in the U.S. Northeast (PADDs 1A and 1B) were 28.3 million barrels, about 21.5 million barrels (43 percent) below their five-year average level (Figure 1). Distillate inventories have historically been used to meet normal winter heating demand but are also an important source of supply when demand surges as a result of unexpected or extreme cold spells. The low distillate inventories could contribute to heating oil price volatility this winter. In addition, outages at several major refineries, notably Petroleos de Venezuela's Amuay Refinery, Shell Oil's Pernis Refinery in the Netherlands, and Irving Oil's Saint John Refinery in Canada, have added to the fundamental market pressures in the Atlantic Basin.