Cheap U.S. fuel oil prompts switching from natgas

By Joe Silha - Analysis

NEW YORK (Reuters) - A collapse in U.S. East Coast residual fuel oil prices over the last month has made it the fuel of choice for many utilities and industrial firms seeking to avoid relatively expensive natural gas.

Natural gas competes with residual fuel, also known as No.6 oil, for a share of the power generation and industrial markets and has been cheaper than oil for most of the last two years in the Northeast, also the world's biggest heating oil market.

"Now is probably the best time in two years to maximize your (Number) six oil runs at the expense of gas, and it looks like there's been a strong demand response over the last two weeks," said Antoine Halff, energy analyst at Newedge in New York.

A chilly November, which ran about 9 percent colder than normal in New York, helped drive regional gas prices up about 18 percent over the last month or so to $8 per million British thermal units this week, or the oil equivalent of about $51 a barrel.

At the same time, low- and mid-sulphur fuel oil grades in New York Harbor have dropped more than 25 percent to between $33 and $43 a barrel as crude oil prices plunged more than $100 from their July highs.

Most East Coast residual fuel oil prices were hovering at three- to four-year lows.

"The resilience of gas prices compared to oil has been an incentive for power generators to look at oil," Halff said.

According to data from the U.S. Energy Information Administration this week, residual fuel oil deliveries jumped last week to 958,000 barrels per day, up from 571,000 bpd the previous week and more than double the 400,000 bpd to 450,000 bpd rate seen from mid-October to mid-November.

That marks a singular bright spot in U.S. petroleum demand, which has been hard-hit by an economic crisis that has cut into road and air travel.

While some of the increase can be pegged to colder late November weather, oil traders and brokers said at least some of the gain is due to fuel switching.

"Gas had all the six oil demand last year but not this year. The economics are so compelling that virtually all of our end users who can switch (from gas to fuel oil) have switched," a Northeast marketer said.

POTENTIAL IMPACT ON GAS

Some large industrial firms, businesses and power generators can burn either oil or gas to produce heat and electricity, depending on which is cheaper, and the recent switch away from gas could spell more price pressure for cleaner-burning natural gas.

Tighter environmental restrictions in recent years have steadily steered the power industry toward lower sulphur oils or natural gas by placing curbs on total emissions.

Estimates vary on how much switching can be done, but according to Strategic Energy and Economic Research, there is about 1.4 billion cubic feet per day of switching capability from gas to residual fuel during winter, with up to 2.7 bcf per day possible on a peak day.