Heating oil crack now attractive for fuel hedging

Today we saw a significant early rally in WTI crude, ending up $1.61/bbl, which we believe was largely due to front month short covering. This follows the anticipated fund crude "roll", where front month contracts are sold in order to buy following month contracts. Interestingly, the Brent contract did not see much of a rally and ended down 68 cents on the day.

The futures curve continues to flatten with December only $3 over May futures (WTI). Looking into the second half of 2009, here are some hedge strategies and prices:

1) Crude swap 5185:
a. $55 Asian WTI call ($6.60/bbl)
b. 55-75 @$4.70/bbl
c. Zero cost collar using the $60 call sells the $45 put

2) Heating Oil swap $1.39/gallon (second half).
a. $1.50 call @ 18 cents/gal OR $7.55 per bbl
b. $1.50 - $2.00 call spread is 12 cents/gal OR $5.00/bbl
c. Zero cost collar using the $1.60/gal call sells the $1.28 put

Keep in mind that the heating oil crack to crude is fairly depressed versus recent history. (See graphic above)

The reason for distillate price weakness this is largely due to:
Overcapacity in refining due to delayed turnarounds now nearing completion (supply higher) and new large capacity in India (Reliant)
Reduced demand in diesel specifically (15% lower in US)
Forced production of distillates when making gasoline into summer season. Higher inventories versus seasonal norm (see graphic #2 below)

Please call or email if there is a particular strategy you would like to review or price.

Two shares of Citi will get you a one-way subway ticket off of Wall Street.

Two shares of Citi will get you a one-way subway ticket off of Wall Street. Another sharp downturn in equities meant another devastating turn for energy yesterday. All eyes on front crude today with non-farm payrolls and the ubiquitous ETF roll underway.


NATURAL GAS

A 102bcf draw was relatively in line with consensus and brings storage to 1,793bcf, roughly 218bcf over the 5-year average and about 300bcf more year over year. The draw did not seem to get in the way of producer hedging which reportedly came through in the backs - evident in the big futures trading for the day (140,627 futures contracts)
There is a sea of mild weather coming up in the next week which will result in a very bearish EIA report on March 19th; however, a cold wave is expected to hit the Northeast just in time for the all the St. Patty’s day revelers. Consequently, end of March storage has the strong potential to come in under 1700bcf lending support to NG before the next leg down


CRUDE & PRODUCTS

Diesel Side Note: food processing companies are increasingly anxious about hedging CAL10. Although there does not seem to be significant concern about price risk for the balance of 2009 we caution that there could be some price increase. For example, parts of South America are having a lackluster hydro year and will need to keep diesel on-hand for electric power generation. Yesterday PDVSA announced that spot market distillate exports will drop in Mar/Apr amid simultaneous outages at the Cardon and El Palito refineries. Jet fuel exports will be limited to 7 cargoes, 2 less than in Feb; no high-sulfur diesel cargoes will be available, from the typical 2. Exports of low-sulfur diesel from the Puerto La Cruz refinery are seen at the usual 4 cargoes. PDVSA closed a jet fuel tender in late-Feb for 4 spot market cargoes in March. Jet fuel and diesel cargoes go mostly to the US and European markets. Venezuela normally exports 2 spot market cargoes of high-sulfur sulfur diesel and 6 more through government agreements. PDVSA said the refinery maintenance had "no impact" on exports (Source: Energy News Today)

Consensus seems to be building among end users that 2010 will experience some economic turnaround. And, more importantly, the current low prices out the curve is an opportunity to lock in hedges for international truck fleets


ROLL INFORMATION

The schedules for major Index rolling of spot Crude Futures: (“days” refer to business days)

Rogers Index (RICI):2nd to last day of month prior; last day of month; first day of expiring month

DeutscheBank (DBC): 2nd thru 6th days of expiring month

US OIL Fund (USO): lasts 4 consecutive days, for monthly start dates click on http://www.unitedstatesoilfund.com/uso_rolldates.html (starts today for April09)

DJ-AIG (AIGCI): 5th thru 9th days of expiring month

Goldman Sachs (GSCI): 5th thru 9th days of expiring month

Ranie Hotis, CFA
HCEnergy

Sing FO Caps and Floors

Crude markets pushed higher yesterday on positive news surrounding stimulus packages as well as newly released inventory and demand figures. China is expected to announce fresh stimulus measures today, news that will surely result in a sustained rally across refined products and crude feedstock. The world’s second largest oil consumer has quietly been adding to strategic reserves and recently ordered several refiners to increase production of gasoline after a marked rise in demand. Meanwhile, in the US gasoline demand continues to recover slowly and refiners have begun to step-up production as a result of the higher margins. Paired with a distinct decrease in imports, the 700,000+ draw in crude for last week was no real surprise.

Yesterday’s abrupt move higher resulted in a decrease in implied volatility, and thus cheaper option premiums. Expect the Singapore refined product markets to push higher today, particularly Fuel Oil as this market has recently been plumbing lows not seen since mid-Feb. Prior to the lows of several weeks ago, traders can mark out support levels back to late-December 2008 at around $200. As the current push higher can be traced to decreased supply, lower inventories and increased product demand, this may be the beginning of a sustained (albeit slow) move higher. As uncertainty has been removed from the market, option volatility has already begun to decrease noticeably. The Sing Fuel Oil 180 Q209 $300 call is currently offered at an average price of only $16.00 per MT and this upside price cap can be owned for zero premium by accepting a $210 floor in the same tenor. With the Q209 swap trading just over $240, this hedge offer substantial breathing room on the downside with unlimited consumer protection above $300.

Singapore, 09:00

Sing Jetkero Consumer Strategy

Energy markets vacillated yesterday following the sharp pull-back from last week’s recent highs. Unfortunately, the commodity markets appear to be taking their lead from equity markets, which while also plumbing new depths on Monday, took a short breather yesterday. With so much volatility and uncertainty having been introduced to markets in the last seven months, traders are having difficulty focusing on any longer-term trends, instead trading more off of at-the-minute information. Particularly harmful to sentiment was news that the US, Europe and Japan have experienced a drop in oil demand of almost 10% in only the past 3 years.

Despite the lack of movement, refined products showed a slight increase in implied volatility yesterday. Using April Sing Jetkero as an example, most observers would expect yesterday’s lack of movement to result in relatively lower implied vols and thus cheaper option premiums. However, the recent break below $50 has introduced renewed uncertainty to the market. This along with the broader energy market questions of how much lower can it go and when will it bounce (and how hard) continue to inject fresh ambiguity to the market. Sing Jetkero consumers can protect their future fuel purchases against exactly this type of market sentiment using simple option strategies. For example, 250,000 barrels of Sing Jetkero can be locked-in at a max price of $65 per barrel for the next 12 months (April09-March10) by accepting a price floor of $51 in the same tenor. This with an underlying calendar swap price of just over $56. Moving the price cap higher will similarly result in a lower price floor (and lower margin requirement with less mark-to-market volatility).

Singapore, 09:00

Sing FO Implied Vols

After a brief respite last week, downward pressure returned to commodity markets yesterday with front-month WTI driving back below the $40 level. Singapore refined products showed a similar pattern. Early in the day April Sing Fuel Oil 180 was offered close to $260 before pushing about one standard deviation lower to trade close to $240 in evening trading. The global economic turmoil continued yesterday with AIG announcing more than $60B in losses in Q408 and further bad news from a purchasing managers’ survey. Global trade has dropped dramatically in the past 4 months, amazingly contracting at a faster rate than during the Great Depression of the early 1930’s.

Traders who are currently long physical bunker can take advantage of the relatively elevated implied volatility to sell upside calls as a hedge. A simple example would be selling 10,000MT of the Sing FO 180 April $300 calls at $9.00 against owning the physical (currently April FO is trading around $242). This short call position acts as a sell-stop, making the option seller short at $309 upon expiration above that level ($300 + $9 premium received). Similarly, if the underlying expires below $300, the option seller receives the full $9 of premium on top of any gains or losses resulting from owning the physical.

Singapore, 09:00

Gasoline Demand Pushes Markets Higher

Energy markets pushed higher last week after strong signs emerged that gasoline demand in the US has stabilized and even increased. WTI ended Friday trading in NY just below the one-month highs set on Thursday. Gasoline futures weakened on Friday after a strong week of gains with similar price action seen in Singapore refined products, such as the Sing Fuel Oil 180 and Sing Jetkero swaps, all posting gains on the week after bouncing off support levels less than 10 days previously. Continually weak forecasts for oil demand due to poor global economic growth will persist in weighing heavily on energy markets, preventing any near-term sustained move higher. Instead, traders are betting on Opec’s high level of compliance with previously announced production cuts on top of an expected announcement of a further decrease of +1M barrels/day in March to push crude and refined prices higher in the second half of 2009.

Hedgers looking to protect against depleted inventories jolting crude markets higher in 2H09 can lock in a price ceiling and floor with very limited mark-to-market volatility vs the standard long-swap hedge. The WTI 2H09 $60/80 call spread strip can be owned for zero premium by selling the $42 put in the same tenor. This hedge provides $20 of upside protection per month above $60 with zero premium at risk at or above $42. With the 2H09 calendar swap currently trading around $52, the hedge provides for almost $10 of breathing room on the downside. It should also be noted that the margin requirement on this trade may be significantly less than that required for a typical long swap.

Singapore, 09:00

Refinery Utilization Pointers and FO Hedging

Energy markets pushed higher yet again yesterday on the back of surprising inventory numbers out of the United States. The main market driver was the 3.3M barrel draw in gasoline supplies partnered with a less than anticipated build in WTI crude oil. The relatively lower gasoline prices have helped cushion what had been declining consumer demand while lower imports and seasonally weak refinery utilization have helped to tighten the contango curve and propel front-month WTI back above $42. It should be noted that the relatively lower refinery utilization numbers of late should be looked at in the context of the introduction of new refining facilities worldwide. With new capacity coming online as well as the continued drop in consumer demand relative to years past, it would not be surprising to see relatively lower refinery utilization data for the next several years.

With Fed Chairman Ben Bernanke recently stating the current recession could be over by the end of 2009 and Opec production cuts now clearly being reflected in market data, Fuel Oil consumers should look to the medium to long-term to lock-in price caps. Historically speaking, implied vols remain elevated, making Zero-Cost structures much more appealing than owning naked caps. The Sing FO 180 Cal10 Zero-Cost strategies would include owning the $310 call for free by selling the $285 put in the same tenor. This strategy can be paired with the purchase of the April09-Dec09 $280/350 call spread for zero cost by selling the $207 put. The above strategies provide excellent upside protection with zero premium at risk at or above the short put strikes.

Singapore, 09:00