# Presentation: 249687

## Winter Distillate and Propane Outlook

*Joanne Shore *
*Energy Information Administration*
- State Heating Oil and Propane Program
- August 2000

**Notes:**
Throughout the summer, gasoline prices have drawn most of the public’s attention, but EIA has been concerned over winter heating fuels as well.

Distillate inventories are likely to begin the winter heating season at low levels, which increases the chances of price volatility such as that seen last winter.

Propane inventories are not as low those for distillate, but Midwest stocks are well below the normal range.  

## Distillate Prices Increasing With Crude Oil

**Notes:**
This slide shows the strong influence crude oil prices have on retail distillate prices.  

Distillate tracks the crude price increases seen in 1996 and the subsequent fall in 1997 and 1998.  Distillate prices have also followed crude oil prices up since the beginning of 1999.  

Residential heating oil prices on the East Coast (PADD 1) were 39 cents per gallon higher this June than last year (120 v 81 cents per gallon).  As the graph shows, the increase is due mainly to increased crude oil prices.

Diesel fuel prices behaved similarly, though with less of a spike last winter.  The average East Coast diesel price in July was $1.44 per gallon, 34 cents higher than a year ago.

## Distillate Supply/Demand Balance Reflected in Spreads

**Notes:**
While crude oil prices will be a major factor impacting distillate prices this winter, another important factor is the U.S. distillate supply/demand balance, as measured by distillate stocks.  

The distillate supply/demand balance influences the spread between spot distillate and spot crude oil prices.  For example, when stocks are higher than normal, the spread will be lower than usual.  This spread is the price incentive that encourages or discourages changes in supply.  

While high stocks in the distillate market are good news for consumers, an excess is bad news for refiners.  

Distillate spreads during the winter of 1998-99 and throughout most of 1999 were well below average.  Distillate stocks were very high during this period, partially as a result of warm weather keeping demand down.

Last winter (1999-00) began with high stocks and low distillate spreads (4 cents below average in September).  Then in December, stocks began a decline that continued into January.  In January, spreads increased dramatically.    

In June of this year, distillate spreads had dropped to 2.5 cents per gallon as a result of crude oil prices increasing faster than product prices.  But by July spreads had strengthened to over 7 cents per gallon, and in the first two weeks in August they have averaged 12 cents, which is almost 6 cents above average --indicating stocks are low.

## Distillate Stocks are Low – Especially on the East Coast

**Source: EIA**

**Notes:**
Distillate stocks are very low for this time of year. This graph shows East Coast inventories, which at the end of July, were well below the normal band. East Coast stocks are about 35% lower than their 10-year average level for this time of year. 
We focus on the East Coast (PADD 1 ) because this a region in which heating oil is a major winter fuel.  Furthermore, the East Coast consumes almost 2/3 of the nation’s heating oil (high sulfur distillate).  

Stocks were well within the normal range through November 1999, but in December, they dropped below the normal band and have not returned to the band.   

As the normal stock band shows, we typically build distillate stocks during the summer for use during the winter, but strong distillate demand and weak net imports have kept inventories from building at the usual rate.    

As was recently evidenced in the gasoline market, below average stock levels translate to increased potential for price volatility.

## Distillate Stocks Are Important Part of East Coast Winter Supply

**Source: EIA**

**Notes:**
Why do stocks matter in the Northeast?  They are the nearest source of supply when anything unexpected occurs, and they supply a significant portion of demand during the peak heating season.

Stocks are normally an important part of PADD 1 winter distillate supply.  Over the last 10 years, they provided about 15% of supply during the peak winter months of January and February.  One of the biggest stock draws we have seen was in January 1994, when a prolonged severe cold spell required 666 MB/D of stocks, covering almost 36% of demand for that month.

On average, stocks supply the East Coast with about 260 MB/D in January and 280 MB/D in February.  Those supplies represent draws of about 8 million barrels in one month.  

PADD 1 refineries meet about 25% of demand during January and February, and other PADDs -- mostly PADD 3 -- supply 40-50% of the region’s needs.

Imports generally supply about as much as stocks during the peak months, with most of the product coming from Canada, the Virgin Islands and Venezuela.  During the peak months, product from more distant sources also helps to supply the region.

Thus, about 60% of the East Coast’s supply comes from distant sources, so if cold weather increases demand, resupply from these distant sources can take several weeks.

## Warm Winters Held Heating Oil Demand Down While Diesel Grew

**Source: EIA**

**Notes:**
Total distillate demand includes both diesel and heating oil.  These are similar products physically, and prior to the low sulfur requirements for on-road diesel fuel, were used interchangeably.  But even today, low sulfur diesel can be used in the heating oil market, but low sulfur requirements keep heating oil from being used in the on-road transportation sector.

The seasonal increases and decreases in stocks stem from the seasonal demand in heating oil shown as the bottom red line.  Heating oil demand increases by more than 50 percent from its low point to its high point.  But it can increase much more as can be seen in January 1994, when high sulfur heating oil demand doubled over its more typical levels.

Heating oil demand has not been growing, and the warm winters over the last few years have diminished the peak levels.  
Look back at January 1994 and you see the peaks for the last several winters are 500 thousand barrels per day lower than what we experienced during that very cold month.

Diesel demand is where the annual growth in distillate has been.  

## Distillate Demand Strong in December 1999

**Sources: History:  EIA;  Projections: Short-Term Energy Outlook, August 2000.**

**Notes:**
U.S. distillate demand during the last winter (1999-00) was almost 5% higher than in the prior year, due mainly to diesel demand growth, since warm weather kept heating oil demand from growing much.

Last December, when stocks dropped below the normal band, demand was almost 12% stronger than the prior year, although U.S. temperatures were only 6% colder.  

December demand seemed stronger than the weather would have indicated.  Some of this strength may have come from Y2K activities.  For example, anecdotal evidence indicates some utilities removed themselves from the natural gas system and used distillate during the year turnover to assure uninterrupted electricity supply.  

Demand is expected to increase 2% this winter over last.  The forecast assumes normal winter weather, which would be 11% colder than we experienced last winter.  Demand growth is expected to be held in check in spite of the colder weather as a result of the economy slowing and higher prices dampening diesel and some other demand. 

This forecast is highly uncertain.  It depends on weather, the economy, and the natural gas market.  

## Dec 1999 & Jan 2000 Production Fell, But Rebounded with Price

**Sources: History:  EIA;  Projections: Short-Term Energy Outlook, August 2000.**

**Notes:**
Will production be high enough this fall to bring stocks back into the normal range?

Last winter, production was cut back in December, which, when combined with the strong increase in demand, resulted in the strong stock draw.  But this did not diminish the typical production decline that occurred in January, leaving stocks precariously low.
As December began, margins were low, and November weather had been 16% warmer than the prior year.  
Stocks were in the normal range, and companies were still smarting from the extremely low margins of the prior winter.  
Refiners reduced production to the prior year’s levels as a result.

When the cold spell hit the Northeast and caused prices to spike at the end of January, production rebounded in response.  However, increased imports were the main source of supply increases following the price spike.

Production is projected to increase about 180 MB/D or 5% this winter. Distillate production can be increased by increasing crude oil inputs to refineries -- which increases all product production -- or by increasing distillate yields, which results in a switch in volumes between products.  A higher distillate yield means higher distillate production but lower gasoline and/or jet fuel production.

Production is forecasted to increase over last year mainly as the result of increased crude oil throughputs of about 600 MB/D with yields holding at about last winter’s levels.

## More Supply Possible This Fall than Forecast 

**Sources: History:  EIA;  Projections: Short-Term Energy Outlook, August 2000.**

**Notes:**
While the current forecast is showing higher distillate production than last year, there is room for yet more volume through refiners switching to higher yields than those being forecast.  This will only happen if economic incentives evolve to encourage this change. 

This graph shows the distillate yield pattern over the 1990’s.  Generally yields rise in the fall to build stocks for winter distillate use.  On average, the yield during the fourth quarter is about 2% higher than the average of the lowest yield months of June, July and August. (Recognize that a 1% change in yield is about a 150 MB/D change in distillate production, which is about 4% of winter demand.)

During the fall of 1996, the winter season began with very low stocks, but refiners pushed yields to very high levels and regained some of the lost ground.

During the winter of 1998-99, we saw a production decline of about 160 MB/D, as refiners began the season with very high stocks and they did not want to build them further.  The production reduction was due mainly to yield reduction.  

As shown on this chart, yields are projected to remain at about the same levels as seen last fall during the stock building cycle.  Thus, if more production is needed, increases in yields can produce yet more distillate.

## Unusual Net Imports May Only Be Available At A High Price

**Sources: History:  EIA;  Projections: Short-Term Energy Outlook, August 2000.**

**Notes:**
Imports are a small, but sometimes crucial contributor to supply.  

Last winter, imports were the main source of supply increase following the price spike.

It looks like June net imports may be about where they were last year, but preliminary data indicate July is very low – both because of weak imports and strong exports, as other countries vie for product.  This helped to contribute to a weak July distillate stock build.

Imports are expected to be relatively normal this winter.  Added imports would probably only be available at a high price, because Europe is low on distillate stocks and will be competing for the available barrels.  

## Distillate Stocks Expected to Remain Low

**Sources: History:  EIA;  Projections: Short-Term Energy Outlook, August 2000.**

**Notes:**
When EIA’s demand forecast is combined with its outlook for production and net imports, distillate stocks are projected to remain low for the rest of the year.
The August 11 distillate fuel stock level is nearly 16% less than last year, but the East Coast is 45% behind year-ago levels. 

Over the last 10 years, the average stock build from the end of July through end of November has been about 16 million barrels.  We are forecasting about a 20 million barrel build, but even that does not get us into the normal band.  Forecast stocks peak at the end of November at 134 million barrels, almost 6 million barrels below the bottom of the normal band.

If, however, economic incentives are high enough, we might be able to get back into the band.  Higher yields and crude utilization rates could provide another 10-15 million barrels by the end of November over those shown.  For example, if demand and net imports remained as currently forecast in the August Short-Term Energy Outlook, but refiners ran at yields and utilization rates seen in the fall of 1996, we might see 15 million barrels more stocks at the end of November.

## Winter Crude Oil and Distillate Price Outlook 

**Sources: History:  EIA;  Projections: Short-Term Energy Outlook, August 2000.**

**Notes:**
While the low stock forecast adds some extra pressure to prices, crude oil cost is the major factor holding prices up this winter.  

The current EIA forecast shows residential prices averaging $1.14  this winter, assuming no volatility.  The average retail price is about the same as last winter, but last winter included the price spike in January and February.  In the Northeast, some consumers paid over $2.00 per gallon during the spike.

Underlying crude oil prices are not expected to change much from this year to last.  WTI averaged about $26.70 last winter, and is currently forecast to be about 60 cents per barrel less this winter.  
Although prices are expected to end the year about $27, they are projected to fall to about $25 in March 2001.

As those of you who watch the markets know, there is tremendous uncertainty in the amount of crude oil supply that will be available this winter.  Less supply means higher crude prices and thus higher heating oil prices.

Weather also adds to the uncertainty.  While a brief cold snap was a factor behind last year’s price spike, the winter as a whole was almost 7% warmer than normal in the Northeast.  If we have a normal winter this year, consumers will be buying more heating oil than last year.  

## Conclusion

**Distillate stocks likely to be low going into winter**
**Prices likely to average as high as last winter even without volatility**
**Residential customers will need to purchase more fuel this winter if weather is normal**
**Same price times higher volumes equals higher bills this winter than last**

**Notes:**
In conclusion – The U.S. may be starting winter with low stocks in all the heating fuel sectors. 

Low stocks translate to an increased potential for price volatility.

Consumers may be paying more this coming winter than they did last year -- mainly because colder weather will increase the volumes they will burn.  

## Propane Prices Follow Crude Oil

**Source: S&P DRI Platt’s  Spot Prices, EIA Retail**

**Notes:**
Prices are one of the first signals in deciphering what is happening in the market.  

This chart shows propane prices (both spot and retail) as well as spot heating oil and crude. Most prices track the price of crude oil.  Hence, crude oil is a major driver behind product price swings.

Propane prices move with the heating fuels in the winter months, and compete with both crude-based and natural gas-based fuels in the petrochemical market during the summer.  

During December 1989 and the winter of 1996-97, propane prices spiked well above crude oil.  When supply begins to run short of demand, prices are bid up rapidly.  This past winter and current prices are not spiking above crude oil, but following the rapid increase in crude oil prices.

Propane spot prices at Mt. Belvieu have been about 55 cents per gallon, heading up towards 60 cents.    

## Propane Demand is Highly Seasonal, But Fresh Supply is Not

**Source: EIA**

**Notes:**
Propane, like distillate, has a highly seasonal demand pattern.  Demand increases about 50% from its low point to its peak.

Production and net imports, on the other hand, do not vary much over a year.  

Inventories balance the market, building during the summer when demand is less than production and net imports, and are used to meet demand during the winter when demand exceeds production and net imports.

## Propane Sector Demand Shares

**Source:   1997 Sales of NGL’s, API**

**Notes:**
The seasonality in demand comes mainly from the residential and commercial propane customers who use it for heating.    

For the most part, the major components of propane demand are chemical, residential,  industrial and farm.  

Combined heating and chemical demand account for about 3⁄4 of total propane demand.  These sectors are somewhat complementary, with chemical demand giving way when propane prices strengthen.

Ordinarily, agricultural demand does not impact regional propane markets except when unusually high and late demand for propane for crop drying combines with early cold weather to cause greater-than-normal demand.

We will be watching the agricultural sector, since the Agriculture Economic Research Service has predicted a record corn crop this year.

## U.S. Propane Demand Jan-May

**Source: EIA**

**Notes:**
Propane demand has shown steady growth throughout most of the 1990’s, rising about 300 MB/D, up more than 36 percent since 1990.

Demand grew in 1999 due in part to higher petrochemical demand and a strong economy. 

Data through May show some decline in demand, which is mainly due to the falloff in petrochemical feedstock use.  Propane prices have become less attractive than other feedstock prices.  

## U.S. Propane Production by Source

**Source: EIA**

**Notes:**
Propane comes from both refinery production and production of natural gas.  Refinery production is where the largest growth in volume has occurred over the long term.  

Propane comes primarily from two units in a refinery -- the reformer and fluid catalytic cracking unit -- which are important units in the production of gasoline.  With increased crude oil throughputs and gasoline production this year, propane production from refineries is up.

Production of propane at gas plants is also up.  Although the prices of natural gas are up, propane prices have increased adequately to create positive margins to produce propane.  

## Waterborne Imports Fall

**Source: EIA**

**Notes:**
Most of our imports come from Canada.  We receive waterborne imports from other parts of the world, especially Algeria.

Waterborne imports have been fading.  In 1998, the world was awash in propane and since the U.S. was one of the few places where excess product could be stored, we had a surge in waterborne imports.  

The Canadian imports in 1999 represent a change in the reporting frame.  The apparent increase is probably not “real” in the sense that those imports were there in prior years, but not being reported.

Imports from Canada may increase this year as natural gas production grows and as the new Aux Sable pipeline is scheduled to begin bringing wet gas into the Chicago area.  This new source could at 20 thousand barrels per day of new supply to the Midwest.  

## Exports of Propane High in 2000

**Source: EIA**

**Notes:**
Another interesting change is the increase in exports that began this year.  Up until this year, exports have run about about 2% of demand or 25 thousand barrels per day.  But they may be moving to about 50 thousand barrels per year.

This is partially because our ability to export has increased.  We now have  expanded waterborne export capacity in Houston and a small pipeline that began operation to move product from the U.S. to Mexico (our biggest export market). 

Mexico has been the largest market for exports.  But South American countries sometimes find US product attractive.  in March, we saw large batches of exports go to Brazil and Chile.  In 1995, Ecuador took some cargoes in one month.

It still is an open question as to how exports will behave in the future.  But the exports mainly affect the Gulf Coast petrochemical markets.   

## U.S. Propane Net Imports Jan-May

**Source: EIA**

**Notes:**
Between the fall-off in waterborne imports and the increase in exports, net imports year to date are down.  

It is not likely that net imports will recover to levels seen last year, even with the new supply of imports flowing from Canada.  

## U.S. Propane Stocks

**Source: EIA**

**Notes:**
Domestic production of propane is up, net imports are down, but demand is also weak.  

The net effect has been that inventories have been running low.  

However they are improving.  The typical stock building period runs from March through September, during which stocks increase about 34 million barrels.  The build so far this year has been 31 million barrels, or almost 15% faster than usual through July.  

The strong stock build has allowed stock levels to move from below the typical band to the bottom of the band.

## PAD District II  Stocks (Midwest)

- PAD District II  Stocks (Midwest)

**Source: EIA**

**Notes:**
The Midwest does not look as good as the United States in total.  Stocks here are still well below normal.

There is still time to catch up.  While crop drying could get in the way, production is strong and the new Aux Sable pipeline likely will bringing in some new supply.  Furthermore, because supply doesn’t move readily between the Gulf Coast and the Midwest (Mont Belvieu and Conway), further strong exports should not have much adverse affect on the Midwest stocks.

The Midwest is an area to watch closely.

## Propane Stocks Are Important Part of Midwest Winter Supply

**Source: EIA**

**Notes:**
The Midwest is a large propane demand region outside of the chemical sector.  About 39% of households that use propane are in the Midwest.  

Inventories are an import source of winter supply in this region, filling almost 25% of demand during the winter -- higher even than heating oil in the Northeast, where inventories supply about 15% of demand.

Net imports from Canada meet about 15% of winter propane needs in the Midwest,
and the rest comes from production.

## Conclusion

**Propane inventories are expected to begin the heating season somewhat low -- especially in the Midwest**
**Propane supply likely to remain above prior year**
- high co-production of propane as refineries continue to meet strong petroleum demand
- high gas plant production of propane as surging crude oil prices keep gas plant margins in positive territory.
**However, propane exports and demand also may be high**
- higher U.S. exports of propane are uncertain
- Residential heating demand likely to increase if weather returns to normal following warm weather during the past two winters.
**Consumers will continue to pay more due to higher world oil prices**** **

**Notes:**
In conclusion, propane inventories are recovering from very low levels, but the Midwest is still quite low.

Propane supply should remain strong this year.

But cold weather could give demand a boost this winter. 

Exports are also uncertain.

Consumers are likely to be paying more this winter, both due to high prices and higher volumes consumed if we have normal weather.