Crude prices closed down again yesterday at $78.20/Bbl - their lowest level since last October. Gasoline and heating oil also posted new 2012 lows. Sadly, falling oil prices won’t help beleaguered East Coast refiners stay in business. Refinery closures in the region are heading towards 40 percent of last year’s capacity. How will the region secure refined product supplies without refineries? In today’s blog we look at the logistics of replacing diesel and heating oil supplies.
To recap Part I, (Don’t Let The Sun Go Down Part I) we looked at the miserable crude price economics causing East Coast refiners to head for the exits. The impending closure of the Sunoco refinery in Philadelphia threatens to diminish capacity in the region by forty percent since last year. (We should also have added to this tale of woe by pointing out the closure in February 2012 of the 350 MB/d HOVENSA refinery in the Virgin Islands, but more about that facility later.) We also began our analysis of how refined product supplies can be sustained after the loss of local capacity by looking at gasoline in the critical Northeast market. We concluded that increased waterborne imports are the answer to gasoline shortages but that they will likely come with a higher price tag to consumers. Today we look at where supplies of diesel and heating oil can be sourced to fill the gap that shuttered refineries are leaving in the Northeast supply chain.
Replacing diesel and heating oil supplies in the Northeast turns out to be far more complicated than for gasoline. That complexity is due to three logistics issues. The first issue is changing product specifications for diesel. The second issue is that the Northeast is the largest remaining market in the US for home heating oil and that market is highly seasonal. The third issue is changing specifications for heating oil.
Let’s start by looking at issue # 1 - product specifications for diesel. Back in the day, diesel and heating oil were very similar fuels with minor differences in their specification. Nowadays, diesel is largely used for truck, marine and rail transportation. Heating oil is used for home or commercial heating. Since 2010 the specifications for diesel and heating oil have diverged. The specification for diesel fuel is now ultra low sulfur diesel (ULSD), a clean-burning fuel that has been required for highway use by the U.S. Environmental Protection Agency (EPA) since 2010. ULSD is restricted to a maximum of 15 parts per million (ppm) of sulfur content. In 2012, locomotive and marine applications will also be required to use ULSD.
What do the tougher ULSD specifications mean for Northeast supplies? The ULSD specification places an immediate constraint on sourcing additional supplies to replace production from shuttered East Coast refineries. ULSD requires complex and expensive refinery processing to remove the sulfur. Fewer refineries worldwide are capable of making ULSD and that means international supplies of ULSD are tight. In Europe, where diesel sulfur specifications are even more restrictive than the US, refiners can produce ULSD but don’t typically have enough supply available for export. Additional supplies of ULSD to meet Northeast shortages are therefore going to have to come from US Gulf Coast refineries. Although there are adequate ULSD supplies in the Gulf (currently being exported) the Colonial pipeline from the Gulf to the Northeast does not have additional capacity available to carry them. Incremental barrels from the Gulf to the Northeast will therefore have to be moved by barges or other waterborne vessels that could be in short supply.
Issue # 2 is that the Northeast is the largest remaining market in this country for home heating oil (the EPA estimates that 70 percent of US homes using heating oil are in the Northeast). Demand for home heating oil is highly seasonal. During the peak winter months of December, January, and February, EPA estimates that Northeast refineries typically supply about 30 percent of heating oil consumption, imports provide about 20 percent, receipts from other U.S. regions about 35 percent, and stock draws about 15 percent. The good news for heating oil is that because it has a higher sulfur specification than ULSD, it is less expensive for refiners to produce and is more widely available in the international marketplace. It is also true that heating oil use is declining in the Northeast since low natural gas prices are encouraging fuel switching and new pipeline projects targeting heating oil consumers will accelerate this trend. Abundant gas supplies in the nearby Marcellus mean that heating oil’s days are numbered in the longer term. In the short term, however if new supplies of heating oil are located to replace shuttered East Coast refinery production, then they will need to feed into existing seasonal storage infrastructure to avoid severe market disruptions during very cold weather.