There is a serious move under way, led by a group of heating oil marketers and regulators, that would force a reduction in the sulfur level for distillates used for space heating.
Proponents want to require that distillates used for space heating have the same sulfur level as that mandated for highway diesel.
Checks with several industry associations indicate that there is no study in the public domain that deals with the supply of low-sulfur distillates. Discussions with energy specialists at the US Energy Information Administration confirmed no such studies.
They also share concerns that supply may not be sufficient to meet low-sulfur demand during a cold snap without a sharp run-up in price. Ironically, even if a study were undertaken, one couldn’t conclude definitively whether there is sufficient supply to meet normal demand.
Thus, if the answer about the adequacy of supply cannot comfortably be quantified, then what can be said about the issue-qualitatively? What intelligent opinion can be formed given the lack of quantitative information?
Surprising demand
Global oil demand has been growing at a very strong rate, and demand likely will remain relatively strong during the next several years. Interestingly, demand has continued to surprise the markets, and forecasts have steadily been revised upward. Despite the sharp growth in demand, net additions to global refining have been anemic.
Although global demand has grown 4.6 million b/d in 2 years, additions to refining have been only about 15% of the additions to demand. Refinery utilization has been rising dramatically throughout the world, and this trend will continue for at least the next 2 years. Thus, conforming product availability will stay tight, relative to crude oil availability.
The fastest growth in petroleum demand has been in middle distillates, heating oil, and diesel, with diesel demand representing virtually all of the growth.
In 2003-04, gasoline accounted for 17% of global product demand growth, while distillates were significantly stronger. Distillates accounted for almost twice the share of growth of gasoline, representing 33% of product demand growth. Thus, the pressure at the margin has been in the low-sulfur distillate category.
High-sulfur crude
Unfortunately, the crude oil that is available at the margin is heavy with high sulfur content. Therefore, not only is there insufficient growth in net refining additions, but substantially more investment is necessary in downstream capability to handle lower quality crudes.
Distillate demand has been strong globally, led by China and the US, and that demand is likely to remain relatively strong. China has become an importer of low-sulfur diesels, as has Europe, where diesel-refining capability is insufficient to meet demand. The US already competes with these regions for low-sulfur supply.
During September and October, high-sulfur distillate demand (space heating use) actually declined by 5% vs. comparable year-ago levels. Despite this decline, New York Harbor spot heating oil prices jumped by 32¢/gal ($13/bbl).
It’s anyone’s guess how much higher distillate prices would have risen if heating degree-days and distillate demand had been higher.
But it’s hard to see why marketers would want to reduce supply-chain flexibility by supporting a low-sulfur mandate. Such a move would reduce the ability to shop the world and eliminate the ability to blend high-sulfur supply. The tighter the quality specs, the more boutique the product, the greater the price volatility.
Given the tightness in global refining and the lack of any cushion in spare, sweet crude oil capacity, why would heating oil marketers want to expose themselves not only to the “normal’ volatility of the space-heating market, but to the added volatility of crude oil production problems that crop up from time to time from sweet crude oil producers like the North Sea and more recently Nigeria?
Stretching the system
The substantial reduction in sulfur imposed by federal requirements for highway diesel in June 2006, coupled with the Tier II sulfur reductions in gasoline, undoubtedly will stretch the refining and distribution system at least through 2007 (nonroad diesel sulfur reduction in 2007).
It’s important to see how effectively these programs work before any more restrictions are mandated on the industry.
In the interim, industry should utilize this period to more thoroughly examine the most cost-efficient sulfur level for home heating. The dealers, National Oilheat Research Alliance, the US Department of Energy, and the northeastern states should undertake a study, probably at the DOE lab in Brookhaven, to determine that level.
While the current level of sulfur in distillate heating oil (2,500 ppm) is too high, it would be a pure coincidence if the diesel sulfur level of 500 ppm turned out to be the most cost effective. There is no question that a lower sulfur level reduces the cost of servicing the burner, but the appropriate level may turn out to be closer to 1,000 ppm than 500 ppm. ✦
