If you look at the Heating oil and WTI charts at right you can see that each have surged since the beginning of August. Indeed, as farm diesel has fallen regionally, heating oil futures have narrowed the spread between the two to a level which has forced diesel higher in times past. The chart at the very bottom of this post illustrates the influence of heating oil futures over farm diesel pricing. When the spread between front month heating oil and retail farm diesel falls below .35, diesel prices firm. When the spread reaches a point wider than .35, diesel will soften. With this morning’s heating oil futures open, our spread is at .26 indicating pending strength in retail farm diesel.
I have not issued official advice to book diesel for fall just yet. There are a few reasons for that. The first, is it seems prudent to wait for the market to confirm a bottom is in place. We want to be patient and allow the market to do the talking. No state posted a higher price this week -- everybody is unchanged or lower, some, sharply lower. Remember, refining activity front-runs the futures market by at least a week and at most (according to our observations) 21 days.
The second reason we have not issued advice yet is crude market volatility. Note the heating oil and crude oil charts at right. An overlay of the two would show they are nearly identical in price action. Crude price activity is driven as much by fund activity as anything and, while U.S. production has fallen slightly according to EIA, supplies are still fairly robust. A lot of the strength in the crude oil market is due to more rumors from OPEC that they will cap production. We have seen this at least twice before in the last year or so, and it always comes to nothing, and prices are forced to retest lows.
Now bear in mind, global crude stocks are slowly winnowing away which will limit price pressure, but there have been rumors from the U.S. crude industry, including oil services providers, that WTI production may forge a recovery in the coming months. Part of that is due to market restructuring under lower price points. Break-even points for producers have fallen sharply as market conditions have forced producers to either shutter production capacity or exit the market altogether, leaving more room for lost-cost producers in the field. We remain wary of the OPEC hype when it comes to production cuts and it is unlikely that Saudi Arabia will look to balance global oil stocks if they feel they have U.S. producers on the ropes. A meeting in Algeria late in September will bring OPEC players together and while Venezuela, Ecuador and Kuwait are calling for a freeze, Russia has said it would not participate in a production freeze, and we believe Saudi Arabia will side with Russia.
One other thought is encouraging us to proceed with caution on diesel. Distillate refiners are eyeing the upcoming winter which will increase demand for home heat via heating oil, and U.S. harvest which will support demand on the farm. With demand for petroleum in general on the rise of late, distillate stocks are trending higher. Farm diesel prices may be limited by brisk refining activity and growing U.S. stocks -- Midwestern stocks in particular.
And so we will wait. If we are guilty of picking pennies, then so be it, but until the retail diesel market indicates it has bottomed, we will take no action. Having said that, you may choose to book some diesel at present prices, and that would not be unwise. In fact, it could be argued that true success in booking diesel would lie in booking a portion at the tail end of the downtrend, and another portion at the front end of a retracement to the upside. I do recommend you get in touch with your preferred diesel retailer soon and get a feel for local supplies and price projections. And stay tuned to your InputsMonitor.com as we do expect to book harvest diesel in the next few weeks.
