As crude-oil price soars, prepare to pay more to stay warm

McClatchy NewspapersNovember 6, 2007 

WASHINGTON — With the price of oil approaching all-time highs, the cost of home heating this winter is expected to soar. Experts say it's not a question of whether it will be a bad winter for consumers, just how bad.

Even before oil breached the $90-a-barrel barrier last week and began racing toward $100, the Energy Information Administration had forecast higher prices. But those forecasts Oct. 9 now seem low.

The EIA said last month that the cost of heating a home for the 58 percent of Americans who use natural gas would increase by 10 percent. The Midwest, where 79 percent of homes depend on natural gas for winter heating, would be the region most affected by this price increase.

But contracts for future deliveries of natural gas, called futures, traded at the end of October at around $8.02 per million British thermal units (btus). That's almost 15 percent above the $6.84 contract price during the second week of October, when the EIA made its forecast.

The biggest forecast price jump in home heating bills was for fuel oil, which was expected to rise 22 percent as crude oil prices rose. Today, prices for contracts for future deliveries of fuel oil are hovering around $2.50 a gallon, up about 14 percent from the contract price during the second week of October. The same contract traded at $1.72 a gallon during the same week of October 2006.

Although fuel oil prices haven't yet surpassed the EIA's projection, it appears to be only a question of time.

"I think you are going to see some startling heating bills out there (for fuel oil), $3.50 or $4 a gallon if crude keeps going higher and crosses $100 a barrel," said John Kilduff, senior vice president and energy analyst for the brokerage firm MF Global Inc. "Heating oil, unlike gasoline, has kept up in lockstep with crude oil prices, and we expect that to continue. It's going to be real hardship" for consumers.

If there's anything good in that somber view, it's that only 7 percent of Americans use fuel oil to heat their homes. But 32 percent of Americans in the Northeast do, and it could be a costly winter for them.

About 30 percent of Americans heat their homes with electric floorboard heaters, space heaters and central air units, and about 52 percent of households in the Southeast do. The EIA projects a 4 percent hike in winter bills for electric heating.

So what's driving up the price of winter heating? For fuel oil, it's crude oil prices. Heating oil is made from crude, and crude is up more than $40 a barrel from its low this year of $50.48 on Jan.18.

Energy traders note that in today's hot global economy, the demand for oil and its byproducts is so strong that there's scant spare capacity to produce more. When products are perceived as scarce, their prices rise.

"It's tightened capacity, it's tightened storage and it is leading to a situation of supplies being tighter than they should be," said Phil Flynn, an energy analyst at Alaron Trading Corp. in Chicago. "For the meantime, supplies are going to be tight and we're going to be vulnerable to upside spikes in price."

Unlike fuel oil, there are no concerns about a global shortage of natural gas, nor are there signs of insufficient U.S. storage capacity to meet consumers' winter needs. Companies that provide natural gas pump supplies into storage months before winter to ensure that they're stocked to meet projected demand.

Yet the price of contracts for future deliveries of natural gas is up. That's even though weather forecasters predict a mild winter that shouldn't strain natural gas supplies.

"It's a significant run-up, and as the heating oil has skyrocketed, it's had the effect of dragging up natural gas with it," acknowledged Kilduff of MF Global. When heating oil costs rise, consumers who can switch look for alternatives, and that feeds demand for natural gas.

Another reason for rising natural-gas prices is differing views on what constitutes adequate storage for the nation's winter home-heating needs.

"I think ultimately it's going to come down to the theory of what 'adequate' storage is, and that's going to play a stronger role (on prices) going forward," Flynn said.

If this winter is colder than meteorologists forecast, he said, traders of natural gas contracts are likely to bid up prices over fears of inadequate supplies.

Not everyone thinks that supply and demand alone explain the rising prices of energy futures.

The Senate Permanent Subcommittee on Investigations, then led by Minnesota Republican Norm Coleman, issued a report in June 2006 estimating that manipulation and excessive speculation in the futures markets add another 20 percent to the price of a barrel of crude oil.

This manipulation occurs, the report said, because contracts for deliveries of oil, gasoline, heating oil and natural gas trade on both regulated markets in the United States and unregulated over-the-counter exchanges. By actively trading on both types of exchanges, big investment banks and pools of investment money called hedge funds can effectively bid up demand for oil — and thus the price of oil — without ever intending to take delivery.

"The traders are manipulating the futures market in a way that increases the price of these commodities out of proportion to what supply and demand would dictate," said Michael Greenburger, a professor of business law and an expert on futures markets at the University of Maryland School of Law in Baltimore.

Greenburger's views carry weight because in the late 1990s he headed the division of trading and markets at the Commodities Futures Trading Commission, which regulates trade in futures contracts. He supports legislation to bring over-the-counter exchanges under the watch of the commission. He thinks that such a move would trigger a significant drop in futures prices for oil and other energy contracts.

"The consumer has got to be made aware that the high price they are paying does not necessarily reflect supply and demand, but rigged markets by hedge funds and big banks that are profiting greatly from this kind of trading," he said.


The Energy Information Administration's Winter Fuels Outlook

McClatchy Newspapers 2007

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