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Heating oil's future doesn't look so hot in the US

Heating oil as we know it is slowly but surely vanishing.

CME Group will officially switch the basis of the NYMEX heating oil futures contract from actual heating oil to ultra low sulfur diesel on April 1, a move signifying the beginning of the end for the once-dominant fuel.

The NYMEX switch was prompted largely by increasingly strict sulfur maximums in the US Northeast states, which are the largest consumers of heating oil.

New York tightened the limits on maximum allowed sulfur in home heating oil from a maximum of 2,000 parts per million to a maximum of just 15 ppm on July 1, 2012, and states from New Jersey up to Maine will join it by 2018. Heating oil will then be used solely for exports and blending purposes and "will cease to exist by 2020," according to an internal study conducted last year by Kinder Morgan.

"New York was the first to go to 15 ppm, and it's forced the entire system," said Brian Feyereisen, Kinder Morgan's commercial director for northern terminals division.

Kinder Morgan owns one of the few Atlantic Coast terminals that still hold a high volume of heating oil stocks, but they are slowly emptying heating oil tanks for ULSD use.

"We're converting to ULSD, and most are doing the same," Feyereisen said. "More folks are getting out of storing it. We don't have a timetable for changing stocks; it'll be a customer basis."

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Stocks for heating oil are already at their lowest level since the US Energy Information Administration began reporting on them in 1993.

"We've seen a decline for a while now," said James Beck, a lead analyst for the US Energy Information Administration. "Since late 2009, there's a downward trend. The high points are lower than the year prior."

US heating oil stocks fell to a record low 16.6 million barrels for the week ending March 22, 2013, compared with 30.1 million for the corresponding week in 2012, 35.1 million in 2011, and 41.7 million in 2010. Though the US Atlantic Coast has mirrored that pattern, down 12.9 million barrels year-over-year to 10.2 million, it remains one of the world's largest regional markets for heating oil.

"Eventually it will come to an end, if the trend continues, and there are hints it will," Beck said. "There are a lot of indications high sulfur won't keep the base it used to have in the past.

"The Atlantic Coast may be washing its hands of it. There's less and less reason to keep it around," he added. "Exports may keep a certain amount viable."

The natural gas market also is becoming more of an alternative option for home heating, helping in the eradication of heating oil. More than two-thirds of the 367 miles of new US natural gas pipeline was added in the Northeast last year, the second highest annual increase for that region since 1997. "Natural gas is moving up" into the region, one heating oil futures trader said. "I think it's pretty much taking over the heating oil market."

Not every market participant is convinced heating oil will just disappear. More optimistic traders and analysts note that low sulfur diesel, which also has a maximum 500 sulfur ppm, still exists for blending and export purposes despite a federal ban for on-road use in 2010 and off-road use like barges and locomotives in 2012.

One market source said US heating oil bans are happening on a state-by-state case, leaving solid demand for the cheaper home heating fuel until the final restrictions in 2018 for Northeast states. Heating oil, meanwhile, has found demand for blending into much higher sulfur fuel oil and bunker oil, the source said, as well as demand for other uses in Africa, the Mediterranean and South America.

Countries in Latin America still use heating oil for power generation. The US exported 153,000 b/d of heating oil in 2012, according to EIA data, and more than half went to Brazil (38,000 b/d), Panama (16,000 b/d), and Guatemala(7,000 b/d).

Latin America "is still hungry and will remain so,” said a second market source, who added that the next trading test of heating oil's future will be next winter in the Northeast.

"People are scared to go out into October. Nobody wants to put a stake in the ground for what will happen," the second source said. "It's not a dying grade. But it's going the way of LSD."