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Investors Bundle Up and Make Way for Old Man Winter

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January 1, 2018
Bundle Up: 2018 Energy Outlook
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Wherever you reside in the U.S., with the exception of places where palm trees grow year-round, the costs to heat your home this winter probably will take a bigger chunk out of your bank account than last year.

You can blame Old Man Winter, who doesn’t appear to be in as generous mood as he was during the previous two winters, which brought unusually mild conditions to much of the Midwest and East.

From January through March 2018, temperatures are expected to average 1 degree to 3 degrees Fahrenheit below normal across a wide swath of the country, from Montana to southern Kansas and Missouri and east through Ohio, New York and much of New England, according to Paul Pastelok, Senior Meteorologist with AccuWeather.

Weather is always at work in the markets, of course, but there are several other factors at work as investors settle in for a long winter. Here are a few considerations.

Crude Oil Rally—Continue or Fizzle?

We heat our homes, schools and workplaces through a variety of energy sources: heating oil, natural gas, propane, electricity—even wood and wood pellets—and crude oil directly or indirectly influences most of those.

Since late June, West Texas Intermediate crude ("WTI"), the U.S. benchmark, has rallied nearly 32%, touching a 2-1/2-year high in December. Heating oil followed suit, with the New York-based futures benchmark up about 37% over the same time frame.

Oil prices rose behind a number of factors, including supply disruptions from major hurricanes and OPEC production cuts. But the rally may be about to fizzle out as U.S. shale producers further ramp up production, says John Kilduff, partner and energy analyst with Again Capital LLC in New York.

“You’re seeing some concern over crude being able to maintain these levels” (with WTI crude around $59 a barrel in late December) says Kilduff, who expects it to drop to $50 to $52 during the first quarter. Domestic oil production “continues to surge higher and higher,” he says. “We should be able to see a lid kept on heating oil prices and gasoline.”

Paying Up on Heating Bills

Lower oil prices tomorrow don’t necessarily mean cheaper heating costs today. Heating oil is expected to average $2.77 a gallon nationwide for the 2018 winter, up 15% from 2017, according to a December forecast from the Energy Information Administration (EIA), the statistical arm of the U.S. Energy Department.

The average household expenditure for heating oil this winter was forecast at $1,506, up 21% from last winter, according to the EIA, which cited an outlook for colder weather and higher energy costs.

The Wheels Keep on Turning

Heating oil is chemically similar to diesel—both are so-called distillate fuels—which means that homeowners who use heating oil are effectively competing for supplies with commercial truck drivers and rail roads, and with export markets.

As the increasingly robust U.S. economy boosts demand for shipping, it’s straining U.S. stockpiles of distillates, which recently fell to 2-1/2-year lows.

Amid tight supplies, heating oil has been among the “most bullish” energy commodities recently, Kilduff says. That reflects “solid demand from the economy, with over-the-road truck traffic doing well.”

Additionally, U.S. oil refiners have been “active and aggressive exporters of diesel the past year.”

In a December report, the EIA said the “increasingly tight” U.S. distillate market could make price increases “more likely” this winter, if global demand for distillate remains high and if the U.S. has colder-than-normal temperatures in the East Coast, where heating oil is widely used for residential heating.

Cooking with Gas

Nearly half of U.S. households are heated with natural gas, according to the EIA. Despite abundant supplies and falling prices, winter gas bills are also poised to increase in 2018, although not by as much as heating oil.

U.S. household expenditures for gas will average $634 this winter, up 10% from 2017, the EIA projected, reflecting, again, the outlook for colder temperatures (greater demand for liquefied natural gas exports is also a factor, industry professionals say).

Return of the Polar Vortex?

Remember the “polar vortex?” It's back in the news this winter. This upper-level, low-pressure zone, hovering over a large pocket of extremely cold air, typically hangs out near the North Pole this time of year. During the winter of 2014, the vortex shifted south, gripping much of the Midwest and Northeast in frigid conditions for weeks.

Pastelok, of AccuWeather, said in late December that the polar vortex “has not truly retreated” to the North Pole. That’s part of the reason he expects the vortex to remain over east-central Canada and “drive cross-polar air right down into the central and eastern U.S.” in the next two to three weeks.

AccuWeather expects two or three more occurrences of this pattern through early March, interspersed with warm-ups, around mid-January and again in February. That means overall temperature divergences probably won’t be as extreme as in 2014, Pastelok says.

Worth Watching in the Energy Sector

Among energy companies, shares of so-called independent oil refiners—those that don’t pump their own oil—have performed particularly well this year, thanks to strong refining margins, known as “crack spreads.”

Kilduff sees continued strength for independent refiners in 2018 amid robust margins and firm export demand (refiner stocks, in his words, could function on a “call option” on the U.S. winter).

“Refining stocks have done quite well over past year and I expect that to continue,” Kilduff says. “They’re seeing fantastic profitability, and they are grabbing market share.” However, he cautions to keep any eye out for foreign competition, particularly from China.

Much of China’s oil demand “goes to feed its independent refining structure,” he adds. “China makes a lot more gas and diesel than it needs, so they’re huge exporters.”

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