FUELSNews 360° Q3 2018 by FUELSNews

M A R K E T

N E W S

I N F O R M A T I O N

Table of Contents FUELSNews 360° Quarterly Report Q3 2018 FUELSNews 360°, published four times annually by Mansfield Energy Corp, analyzes and summarizes the prior quarter’s activity in the oil, natural gas and refined products industries. The purpose of this report is to provide industry market data, trends and reporting – both domestically and globally to provide insight into upcoming challenges facing the energy supply chain.

Executive Summary

Overview

July through November 2018

Economy & Demand 11

Emerging Economies & Oil Demand

Liquid Fuels Demand

32 33

Looking Ahead— Your Guide to 2019 Fuel Prices

Alan Apthorp

2019 Forecast 12

Overview

Inventories

Refinery Activity

U.S. Crude Production

Exports

Gulf Coast & Southeast Gabe Aucar

Northeast

Josh Wakeman

Central

Nate Kovacevich

West

Amy Nguyen

Canada

Nate Kovacevich

Alternative Fuels 34

Fundamentals 20

Regional Views

Biofuels

The New Dynamics of Renewable Fuels Marketing Sara Bonario

Natural Gas

Supply, Demand, Storage Martin Trotter

Legal 26

EPA’s 2019 Proposed RVOs Published

Gas Taxes Increase in Seven States

RFS Refinery Waivers Challenged

Net Versus Gross Gallons – What’s the Difference?

Winter Fuel Outlook for 2018 – 19: Be Prepared for Extremes

Clint Hamlin

42 44

Viewpoints

Why People Fix Fuel Prices

Mac Cullens

FUELSNews 360˚ National Supply Team Contributors

Q3 2018 Executive Summary Welcome to the holiday edition of FN360! With so much going on in the market, specifically in October and November, we delayed our Q3 publication to bring you the most timely and relevant information possible. Both the midterm elections and Iran sanctions have created significant volatility for fuel prices.

creating favorable economics for refineries and allowing them to discount their fuel prices. Strong crack spreads kept PADD 2 refinery utilization rates elevated during maintenance season, as Nate Kovacevich covers on page 31.

As a special bonus this quarter, we’ve added a 2019 Forecast Summary evaluating the 2019 fuel predictions of major agencies, banks, and analysts. Turn to page 12 to find a helpful guide for your budgeting process as we head into the New Year.

Chicago refineries, seeking a home for their cheap fuel, continue pushing their products eastward. At the crux of the fight is the Laurel Pipeline in Pennsylvania, which some would switch to a bidirectional flow to allow Chicago fuel to reach Pittsburgh. Learn more on the northeast’s on-going supply debate on page 30.

Oil Market Summary The past several months have been tumultuous for oil economics, seeing prices fluctuate from multi-year highs of $76/bbl to annual lows of $50/bbl in just a few short weeks. July through November brought a broad spectrum of market events: geopolitical conflict, supply outages, midterm elections, and hurricanes, to name a few. Throughout the period, markets were most focused on Iran sanctions, which dominated news headlines and analyst forecasts. Although Trump issued waivers to several countries, markets fear the supply impacts in 2019. But the tightening of global supplies was not enough to counteract escalating U.S.-China trade threats, which put a damper on global fuel demand prospects and has pushed prices lower. Looking ahead to 2019, anything seems possible. With prices trading near 52-week lows, a reversion higher seems likely; but markets could stubbornly remain lower through the winter. Supply balances seem comfortable now, with little prospects for change before Jan 1. With Iran sanctions and OPEC cuts expected in 2019, though, expect markets to tighten, or even flip to under-supplied next year. Regional Summary Regionally, the outlook was more positive for consumers. Regional fuel prices across the board have trended lower relative to NYMEX prices. Chicago has become a core area to monitor for fuel price trends. Cheap Canadian crude shipped from Alberta is processed near Chicago,

With abundant supplies in the northeast, many Gulf Coast refiners have stopped sending product north and instead are sending it south to Mexico. On January 1st, Mexican suppliers will need to switch from high-sulfur diesel to ULSD, forcing further reliance on American refineries. With Texas oil production booming and Gulf Coast demand already high, Mexico’s thirst for ULSD could cause supply strain in the southern U.S. Gabe Aucar explains more on page 28. Market Insights As we move into the winter season, many fleets are preparing to protect their assets from gelling. Last year brought fuel quality concerns in certain areas, causing above-average gelling activity. How can fleet operators prepare this year? Turn to page 40 to learn about winter weather solutions to prepare for cold snaps. Next year’s fuel prices are more of a mystery than ever, with analysts saying prices could remain as low as $50/bbl or could surpass $100/bbl. In the context of this uncertainty, is your company’s budget at risk? Learn from risk analysis expert Mac Cullens the four reasons why consumers choose to lock in their fuel prices. Thank you for reading this quarter’s issue of FUELSNews 360⁰. Please feel free to write us at fuelsnews@mansfieldoil.com with feedback or market questions. Happy Holidays! •

OVERVIEW July through November 2018 The second half of 2018 has been quite eventful – reaching both the highest and the lowest prices of the year within a few weeks of each other. July began with some quick volatility as both Canada and Libya experienced production outages amounting to a combined 1 million barrels per day (MMbpd). In response to the outages, Trump tweeted that Saudi Arabia had agreed to increase production by 2 MMbpd – which the kingdom quickly denied, though months later the nation did up its output.

By late July, geopolitical tensions were broiling. Iran’s President Rouhani said in a speech that any effort to cut off Iranian exports would be met with the “mother of all wars,” to which Trump responded with an all-caps tweet not to threaten the U.S. With this exchange fresh in the market’s memory, a Saudi tanker was attacked by Iran-backed Houthi rebels in the Bab el-Mandeb Strait, one of the largest oil chokepoints in the world. Fortunately, those conflicts did not escalate to broader tensions, and geopolitical frictions cooled thereafter.

2018 Market Summary

Source: New York Mercantile Exchange (NYMEX)

Overview Conflicts calmed just in time for Trump to take center stage in the global theater. In early August, Trump’s first round of snapback sanctions on Iran took effect, cutting off Iran’s access to global financing. Iran responded quickly by declaring they would not start a war with the U.S., but they also would not negotiate with a country that had violated the multilateral nuclear deal. Not long after feuding with Iran, the U.S. officially fired the first volley in the U.S.–China trade war, applying tariffs to $16 billion of goods. That conflict continued escalating through September, when both countries escalated tariffs to cover an additional $200 billion in goods.

Q3 saw WTI crude prices continue their march higher, climbing roughly $1.50 above their Q2 average and $21 above Q3 2017. Diesel prices also rose marginally higher, up 3 cents from Q2 and more than 50 cents year-over year. Gasoline was the outlier, with Q3 prices actually falling somewhat relative to the previous month. Gasoline prices are highly seasonal – summer gasoline requirements cause prices to jump up in March and fall in September, making Q3’s decline predictable. •

Quarterly WTI Crude Prices

In late August, a subtle yet important policy change occurred. For years, Saudi Arabia has been working toward the initial public offering of its state-run oil company, Saudi Aramco. In August, though, the Saudis announced their plans to postpone the IPO until further notice. Many have speculated that the Aramco IPO was a major driver behind Saudi Arabia’s push for OPEC production quotas. Markets had looked forward to the increased transparency from the IPO, but now will have to wait a bit longer before they see the inner workings of Aramco. By September, hurricane activity began to pick up, as covered on page 8. September headlines were dominated by hurricanes, Iran sanctions hype, and trade talks. Source: New York Mercantile Exchange (NYMEX)

Quarterly Gasoline Prices

Quarterly Diesel Prices

Source: New York Mercantile Exchange (NYMEX)

Overview As Gordon made landfall, Hurricane Florence was busy crossing the Atlantic, attaining a peak strength of Category 4 but slowing to a Cat 1 before striking the coast on September 14. Although Florence didn’t bring extraordinary winds, it did bring prolonged heavy rains to the East Coast. Florence made landfall between North Carolina and South Carolina, where it stalled and dumped over 30 inches of rain before moving inland and north. High waters cut off many roads along the Carolina coasts, an area not used to extreme flooding. Although Florence did not impact any national fueling infrastructure, the local impact on supplies was severe. The Carolinas remained on Code Red for a week after the hurricane passed as inland flooding slowly made its way through the state’s tributaries back towards the Atlantic. Remnants from Florence made a second-pass towards the Carolinas days later, and although they ultimately proved uneventful they kept fuel suppliers on alert until September 28, when Mansfield declared all-clear in the Carolinas.

Hurricane Season

Although this year’s hurricane season was less destructive than last year, there was plenty of storm activity to keep fuel procurement teams on their toes. The first several storms of the season came and went without significant incident. The first FUELSNews alert was for Tropical Storm Gordon, which made landfall on September 4 near the Mississippi-Alabama border and brought some 4 inches of rain.

With the worst behind them, markets continued with business as usual until Hurricane Michael entered the national stage in mid-October. Michael intensified rapidly and slammed into the Florida Panhandle just shy of a Category 5 storm, the strongest storm ever to hit the Panhandle. Unlike Florence, Michael travelled through the Gulf of Mexico, briefly shutting down over 700 kbpd of offshore oil production. Although an extremely powerful storm, Michael was also extremely quick, limiting the devastation along the coast. Supplies quickly normalized after the storm, and elevated pre-storm demand cooled quickly. •

Octo-Bear Surprise

October opened at the highest point of the year, with WTI prices hitting a 4-year high of $76/bbl. With prices trending upward throughout 2018, markets expected the trend to continue unabated until prices reached $80 or higher. In fact, a FUELSNews poll in early October asking readers whether crude would hit $100 or $50 first showed 63% expected prices to continue rising to $100. Diesel prices reached $2.40 during this time, while gasoline traded for $2.10 per gallon. But October had other plans for oil prices. After hitting $76, WTI crude immediately gave up $2/bbl in one day. On October 11, the stock market took a significant turn for the worse – an ominous signal given how many market plunges have begun during or near October (1929, 1987 and 2008 to name a few). That stock market drop rippled through financial markets, causing a turnaround for crude that would last through December. By mid-October, the bearish market became quite evident. Net long positions, the difference between bullish and bearish bets in the market, reached an annual low on October 19, and continued falling in the weeks thereafter. Fanning the flames of the sell-off, Saudi Arabia and Iraq both reported increased production in October, causing OPEC production to rise overall despite production slowdowns in Iran and Venezuela. • 8

Overview

November Collapse

although they did not decisively reject the incumbent’s politics, they also did not wholeheartedly endorse it.

While October opened on a high note, November opened with a whimper. For oil markets, the split Congress next year means a return to Washington gridlock. Gridlock tends to be positive for businesses – no October 29 marked the first in a long series of down days, which would new bills means less regulatory uncertainty. But Trump will still be able last 12 trading days and take the market from $67 to just $55. to pass new political appointments through the Republican-controlled In the midst of that anti-rally came two very important events for oil Senate, meaning the judiciary and governing agencies will stay markets: Iran sanctions and U.S. midterm elections. predominantly right-leaning for the next few years. On Nov 5, U.S. sanctions on Iran’s oil exports officially went into effect. Along with Congressional members, a number of ballot initiatives were But Trump had a surprise in mind for the markets: 6-month waivers for under review, again with mixed results. Washington State rejected a eight countries, who collectively make up 75% of Iran’s exports. The Trump measure to impose a carbon tax and Arizona rejected a renewable power administration kept the waivers a secret until the last moment, so the measure, but Nevada voted to require renewables make up 50% of the announcement took markets by surprise and turned a downturn into a state’s power. Voters generally preferred not to increase taxes on fuel. full-on sell-off. Colorado rejected a very contentious policy that would have banned Iran’s maximum capacity is 2.5 MMbpd, and their exports had already drilling within 2,500 feet of an inhabited structure or protected area. fallen by roughly 1 MMbpd in the days leading up to November 5. Florida, on the other hand, passed an amendment to ban future Countries like Japan had already begun weaning off Iran’s supply before offshore drilling. receiving waivers, meaning global supplies technically increased after Nov 5. Unless OPEC steps in to balance the market, these waivers could Even after elections and Iran sanctions drama wrapped up, prices kept cause large stock builds in 2019, keeping prices low. falling. Crude fell below $55 on November 20 and hit $50 just three days later. At the same time, gasoline traded for just $1.40, 70¢ below November also brought midterm elections in the U.S., a chance for voters its November peak. Diesel prices fell to $1.90, a 50¢ downward move. to turn out and demonstrate their support or opposition for the incumbent party. When the votes had all been tallied, the Democrats had 2018 has been a roller coaster: a long, steady rise followed by a taken control of the House while Republicans maintained Senate control. sudden snap lower. Such an uncontrollable ride leaves a market The mixed results gave no clear communication on voter preferences – observer to wonder: what could possibly come next? • 9

ECONOMY & DEMAND

As oil production has risen globally, market focus has turned to the economy and global oil demand. Even with increased production, strong demand could soak up product and keep prices higher.

U.S. GDP Growth GDP % Growth

Economic demand failed to impress in Q3, however. In the U.S., GDP growth in Q3 was estimated to be just 3.5%, down from Q2’s lofty 4.2% growth. The second quarter was one of the highest in recent history, so it’s no surprise that Q3 would fall behind. Still, if you followed Trump’s tweets, you might have expected even higher output over the past few months. The latest forecasts for Q4 GDP growth in the U.S. show a meager 2.5% growth – seasonally lower than the rest of the year, but still the highest Q4 result in the last four years. For 2019, Goldman Sachs now calls for reduced demand, predicting its fall to 1.8% and 1.6% in Q3 and Q4 2019, respectively, and possibly giving way to a recession in 2020.

U.S. Unemployment Rate

Robust GDP growth this past year has kept unemployment at historically low levels. September and October marked unemployment levels of 3.7% - the lowest since 1969. Economic growth translates to ample job opportunities, creating further potential to drive consumer demand. •

Source: St. Louis Federal Reserve

Source: Bureau for Economic Analysis

Economy & Demand

Emerging Economies & Oil Demand Although the U.S.’s 2019 performance appears to be on solid footing, other countries are not so lucky. The U.S.-China trade war has threatened growth prospects in China, cascading through developing nations. The IMF in October downgraded China’s 2019 growth prospects from 6.4% to 6.2%. While a small percentage change, the downgrade equates to a difference of $250 billion dollars.

Emerging economies set the tone for global energy demand. Over the past 20 years, the top seven emerging economies (including the BRIC nations, Indonesia, Mexico and Turkey) accounted for nearly all global demand growth. As these economies modernize, though, they require less extra fuel to support economic growth. Agrarian economies rely on fuel to increase crop production and distribution, while manufacturing economies use fuel to get their products to markets. Service and technology economies, however, don’t require as much additional energy to create value.

Because developing economies make up a disproportionate portion of global demand growth, any slowdown in activity would cause an overabundance of supply, rising inventories, and falling prices. Economic uncertainty, caused by unpredictable trade dynamics and high commodity prices, has investors flocking to the U.S. Dollar, strengthening America’s currency while weakening those of emerging economies. Weak currencies exacerbate high commodity prices – oil, priced in USD, is even more expensive for developing nations than for countries with strong currencies. Overall, weakened growth prospects in developing nations contributed heavily to November’s price decline. Although increasing global supplies have played a part, demand forecasts have fallen even faster. Absent a change in U.S.-China trade policies, expect the resulting weakness in emerging economies to keep a lid on fuel demand. •

Liquid Fuels Demand

U.S. Liquid Fuels Consumption Forecast

With local economic growth comes an uptick in crude oil demand. This year, U.S. liquid fuel consumption has surpassed 20 MMbpd, and is expected to rise slightly to 20.69 MMbpd next year.

U.S. supplied U.S.liquid liquid fuels fuels product product supplied (consumption) (consumption) Mbpd million barrels per day 25 25

Mbpd 1.00 1.00

The EIA forecasts a 0.2 MMbpd increase in consumption in 2019. This year, fuel consumption rose 0.5 MMbpd compared to 2017, rising for most fuel categories. Two years ago, diesel demand actually fell year-over-year, but in 2019 all products are expected to grow marginally.

20 20

0.75 0.75

15 15

0.50 0.50

10 10

monthly history monthly history monthly forecast monthly forecast annual average annual average

0.25 0.25

motorgasoline gasoline motor distillatefuel fuel distillate jet fuel fuel jet hydrocarbon hydrocarbon gas liquids otherfuels fuels other net change change net 0.2 0.2

0.3

2016

2017 2017

forecast forecast

0.5

0.2

0.00 0.00

0 2016 2016

Components Componentsofofannual annual change change

2017 2017

2018 2018

2019

-0.25 -0.25

2018 2018

2019 19

Source: Energy Information Administration (EIA), Short-Term Energy Outlook, November 2018

U.S. Diesel Demand

Strong economic activity in the U.S. corresponds with heavy demand for diesel fuels. Unlike gasoline, for which demand falls when prices rise, diesel demand tends to track economic growth. Diesel demand has reached 5-year highs this year, surpassing 4,500 kbpd at three different points this year. •

Source: Energy Information Administration (EIA)

2019

2019 FORECAST

Analysis by Alan Apthorp, Chief of Staff See his bio, page 44

Looking Ahead – Your Guide to 2019 Fuel Prices Crude oil is an incredibly volatile and complex commodity, one intimately tied both to the global economy and to geopolitics. Rising oil prices create windfall profits for producing nations, while dampening demand in consumer nations. Falling prices are a boon to consumers, but create instability and budget shortfalls for producers. The resulting boom and bust dynamic makes predicting the future of oil prices nearly impossible, yet companies reliant on fuel must still budget and plan for the future.

Although it’s impossible to predict the future with certainty, one can evaluate the wide swath of available data to pick up a few clues on what may lie ahead. The plethora of viewpoints makes the task of predicting the future a daunting one; as Nobel laureate Nils Bohr stated, “Prediction is very difficult, especially if it’s about the future! Assessing the mounting volume of forecasts and premonitions about 2019’s fuel price activity, we've compiled the most prominent predictions. While no prediction is perfect, and it's hard enough to fully understand past events, the consensus view of all experts may provide glimpses into what lies ahead in the coming year.

What Energy Agencies Say

Energy agencies are notorious for making low-risk forecasts on the future – rarely forecasting anything other than “more of the same.” They do not speculate on future production outages, geopolitics, or other complex events, sticking to a more pure supply and demand function. This approach is not necessarily predictive of what will happen in the future, but rather a view of what would happen with no significant deviations from current expectations. Among the chief energy agencies to monitor are the International Energy Agency (Global), the Energy Information Administration (U.S.) and the Organization of Petroleum Exporting Countries (Middle East). These three agencies report regularly on oil market trends, leading traders to highly value their insights.

IEA The International Energy Agency publishes a monthly oil market report as well as a long-term report looking ahead to the next twenty years of energy markets. Although they do not directly predict prices, they do reveal important supply and demand trends that will influence prices. In their most recent monthly oil report, the IEA noted that demand prospects for 2019 continue to diminish, down to just 1.4 million barrels per day (MMbpd) growth over 2018, falling by 110 thousand barrels per day from their last forecast. Global production is rising quickly; in September, global output was up 2.6 MMbpd from the previous year, and 2019 will see production rise by 1.8 MMbpd. IEA Executive Director, Fatih Birol, called for “common sense” production levels for 2019 that would not unnecessarily strain the global economy. In his view, markets are amply supplied now but a production cut risks over-tightening supplies. Birol in October noted that $80/bbl Brent crude was a “red zone” that would significantly curtail demand if prolonged, theoretically drawing an upper limit on oil prices. 12

EIA The U.S.’s Energy Information Administration is a hallmark of the energy industry, providing some of the most well-regarded energy data in the world on a regular basis, though their analysis is mostly limited to U.S. trends. Given their U.S. bias, the EIA is one of the only major agencies to place more emphasis on its WTI forecast than Brent. According to the EIA’s November Short-Term Energy Outlook, the agency expects WTI crude to average $65/bbl in 2019, while Brent-WTI spreads will average $7 for the year. The EIA’s forecast is subject to some fairly significant qualifications – their 95% confidence interval ranges from $53/bbl to $83/bbl in February, a large range just a few short months away. The EIA also evaluates retail gasoline prices, which are expected to remain unchanged from the 2018 forecast level of $2.75. Unlike gasoline prices, retail diesel prices will grow slightly, rising from $3.19 to $3.21 next year. The EIA’s forecast includes a small build in global stocks throughout 2019, roughly 0.6 MMbpd globally. They expect U.S. production to rise to 12.1 MMbpd in 2019 – making it the highest year on record – after 2018 has averaged 10.9 MMbpd. Globally, oil supply is expected to rise by 2.1 MMbpd, while demand will rise by just 1.4 MMbpd.

OPEC

Unlike the EIA and IEA, the Organization of Petroleum Exporting Countries (OPEC) is more than just a reporting agency – they actively influence market prices, so their reports give clues into how OPEC views markets and will act in the future. OPEC’s analysis is used by member nations to determine production cuts or increases. In their November Monthly Oil Market Report (MOMR), OPEC analysts point out that 2019 will bring less demand for OPEC’s crude than 2018. This year, the world has required 32.6 MMbpd from OPEC; in 2019 that number will fall to just 31.5 MMbpd. This analysis plays an important role in helping the organization set its 2019 production strategy, which in turn will strongly influence prices. Global economic growth for 2019 is set to reach 3.5%, a small downward revision from the October report and a deceleration from 2018’s 3.7% growth. That slowing economic growth translated into a slightly weakened forecast for demand, down to 1.3 MMbpd in growth. Still, that increase will drive average annual demand to surpass 100 MMbpd for the first time in world history, and supply is expected to cross the same threshold in 2019.

IMF

The International Monetary Fund is not necessarily known for its oil forecasts, since the organization tends to focus on economic policy and developing nations. But given oil’s linkage to economic development, the organization must understand oil prices to accurately plan its activities. The IMF predicted in October that 2019 would see world oil prices (Brent crude) around $68.78, slightly lower than the expected 2018 average of

2019 Forecast $69.38. Over the next five years, the organization sees prices steadily falling to $60 per barrel as supply increases and overshadows demand. Still, those levels are high enough to put a strain on developing economies, and the IMF listed oil as a headwind for economic growth in 2019.

What Banks Say

Banking institutions are well regarded for their insights into global market trends. Constantly evaluating market conditions to find ways for investors to beat the market, these companies have large analyst teams tasked with evaluating every possible clue on future oil price activity. Yet those large analyst teams produce vastly varying outputs. Banks are among the most variable of all forecasters, with some publishing very conservative results while others herald large swings, higher or lower, for oil prices.

Major Bank Forecasts for 2018–2019 Q3 2018

Q4 2018

Q1 2019

Mean

$68.44

$67.04

$66.08

Median

$69

$67

$66.44

Maximum

$78

$81

$79

Minimum

$58

$53

# of forecasters

Goldman Sachs

Goldman Sachs tends to be a fairly bullish firm, with forecasts making up the higher end of bank predictions. The institution forecasts a $75/bbl Brent average, with crude making a run at $80 by the end of the year. For WTI, this translates to roughly a $65 forecast given current Brent-WTI dynamics (though those spreads may collapse in 2019, raising WTI prices to be more in line with Brent). Even after the November rout, Goldman is bullish on commodities and expects prices to spring higher in Q1 2019 once OPEC production quotas kick in. According to Goldman’s head of commodity research, oil prices have been disproportionately affected by automated trading strategies such as momentum traders and options, which together triggered a large sell-off based on technical market trends rather than fundamentals. Once oil bounces back, the same pattern will occur to the upside, causing a quick return to higher oil prices.

Merrill Lynch

World Bank

Like the IMF, the World Bank does not deal exclusively in oil markets, but they certainly have a view on its future. The World Bank is more bullish than the IMF, expecting 2018 to end with an average price of $72/bbl. The large economic institution predicts that crude oil will rise next year to $74/bbl, while non-energy commodities turn lower. World Bank analysts note that the organization’s forecast may turn lower depending on the outcome of certain policy decisions around the world. The biggest risk to the forecast is trade policy – further escalation of the U.S.-China trade war could dampen demand for energy commodities globally. Analysts also point out trends towards greener energy and efficiency putting downward pressure on prices. As emerging economies such as China become more advanced and grow through less energy-intensive methods, the correlation between economic growth and fuel demand could shrink. 14

Merrill Lynch in October lifted their 2019 Brent forecast to $80/bbl, raising it from earlier forecasts of $75. The adjustment came after the bank revised its Iran sanctions analysis to account for a 1 MMbpd supply loss. In addition to Iran, U.S. export bottlenecks and IMO 2020 could potentially drive Brent to $120 at some point in the year, causing significant demand destruction in developing economies. U.S. crude prices are expected to lag behind Brent prices, with little progress on crude pipeline infrastructure. Still, WTI will rise higher overall as international supply shortages begin to affect domestic prices.

Citigroup

Citigroup set its forecast for 2019 back in April, and at the time they forecast 2019 Brent to trend at $55/bbl – a prediction that at the time seemed extremely low but today appears slightly more plausible. Among the most bearish of forecasts, the $55 prediction would put WTI crude at $45/bbl, slightly lower than the lows set in November around $50/bbl for WTI. The bank cited U.S.-China trade rifts as a key factor in demand destruction; with no end in sight for the trade war, global demand could take a hit. In July,

2019 Forecast

What Producers Say

The Dallas Fed Energy Survey, taken quarterly, asks major U.S. producers for their perspectives on the future of energy prices as well as current production trends. The survey does not contain information on 2019 prices, but does ask producers how they expected prices to begin the year. Surveyed in September, the majority of respondents expect 2019 to begin with prices above $70/bbl, with less than 10% predicting a price below $65/bbl on January 1. “What do you expect the WTI crude oil price to be at the end of 2018?”

Citi’s commodity chief Ed Morse noted that bullish predictions for 2019 ignored improvements in drilling technology that fundamentally shifted the market lower. He predicted a strong 2018 performance giving way to extremely low prices in 2019 – as low as $45/bbl for Brent.

Wells Fargo

Wells Fargo in September set its 2019 Brent oil target to $80, and in October they actually increased that forecast to $83.80, though noting an expected slowdown of emerging economy oil demand in 2019. Wells Fargo attributes the slowdown to the on-going rift between the U.S. and China, noting that a favorable resolution could lead to more positive prospects next year. Wells Fargo analysis says November’s steep losses are not enough to shake their forecast, since winter is a notoriously weak period for crude oil given declining gasoline demand. Analysts noted the $60 environment would need to hold through spring to significantly alter their forecast. Amidst outages in Venezuela and Iran and Saudi Arabia’s lack of spare capacity to handle surprise outages, the group expects 2019 to be a year of undersupply, further supported by IMO 2020 implementation.

Source: Federal Reserve Bank of Dallas Survey

The survey also asks producers when they expect the pipeline capacity constraints in the Permian Basin to be relieved. While not directly about price, this important question reveals when Brent-WTI spreads will begin to shrink, causing international prices to fall somewhat while WTI rises to meet in the middle. The survey reveals that a majority of oil producers, many operating in the Permian Basin, expects the constraints to be improved after Q4 2019. Consumers should take note that for much of 2019, Brent-WTI spreads should remain wide, which is beneficial for Midwest and Gulf Coast consumers while not much comfort to those on the East or West Coast. “In what quarter do you expect crude oil pipeline capacity will be sufficient to alleviate the current takeaway constraints in the Permian Basin?”

JP Morgan

In November, JP Morgan predicted Brent crude oil will average $73 in 2019, a decrease from its previous forecast of $83.50. That marks a significant increase from current levels, but overall a small change compared to the fullyear 2018 average. The downward revision came due to bolstering production in North America, particularly as more supplies are able to reach the market in late 2019. Unlike many others, JP Morgan is looking for demand growth to weigh on the market, especially after OPEC’s cuts go into effect, which would keep prices elevated early in the year before sliding in the second half.

Source: Federal Reserve Bank of Dallas Survey

Trafigura

While not necessarily a bank, Trafigura is among the largest commodity trading companies in the world, so their view of markets is certainly worth considering. According to executives at Trafigura, the company sees oil prices rising robustly in 2019.

The final question is perhaps the most revealing of how the market will behave in 2019. Asked whether the market will be oversupplied, undersupplied, or balanced next year, a large majority – 64% of oil and gas executives – said they expect markets to be balanced. Another 26% expect the market to be undersupplied.

Trafigura’s co-head of trading Ben Luckock forecast oil prices would end 2019 at $100 per barrel. The organization’s view is largely supported by Iran sanctions, which are expected to remove 2 MMbpd from the market. Although Trump surprised the world by granting waivers to eight countries, the production outage could still be realized later in 2019, causing prices to rally then.

Oil producers have more at stake than any other institution – banks, energy agencies, or individual traders – in correctly forecasting demand. Their profits rise and fall based on how they react to energy market trends – producing too much in an oversupplied market or too little when markets are undersupplied can cause bankruptcy. Oil producers must be attuned to market behaviors and whether supplies will be balanced over the coming year.

2019 Forecast Saudi Aramco’s stock price would have been dependent on oil prices, so many believe the Saudi’s push for OPEC-controlled markets in 2016 and 2017 was directly related to the upcoming IPO. This year, however, the Saudis have scrapped the IPO plans (at least for now), reducing Saudi Arabia’s need for high oil prices.

“The global oil market moved into balance in the first half of 2018. In 2019, do you think the global market will be undersupplied, oversupplied or close to balance?”

Still, their national budget benefits from higher oil prices, so don’t expect them to back down from advocating for high oil prices. Statements from Saudi officials indicate the government would be comfortable with prices around $80 for Brent crude ($70-$75 for WTI crude). IMF analysis indicates that Saudi Arabia needs oil prices around $73/bbl to balance their government’s budget, so a price of $80/bbl would provide a small financial cushion.

Russia

What Producing Countries Say

Source: Dallas Fed Energy Survey

Certain countries are highly influential in the international energy sphere. Among the most influential countries in the world are the top three producers – the U.S., Russia, and Saudi Arabia.

United States

In September, the United States became the largest oil producer in the world, unseating Saudi Arabia and Russia’s position as global oil leader. Unlike Saudi Arabia and Russia, however, America’s products are not nationalized, so America cannot control its output the way Saudi Arabia and Russia can.

Russia, who lost its seat as the world’s largest oil producer this year, plans to keep increasing its supplies in 2018. Unlike Saudi Arabia, who needs higher prices to meet their budget, President Putin noted in November that $70/bbl crude “suits us completely.” Expert analysis from Renaissance Capital on Russia’s finances shows the country needed $53/bbl in 2018 to balance its budget. That number will be even lower in 2019, down as low as $40/bbl according to Russia’s Finance Ministry. Compare that to 2008, when Russia could not meet its federal budget unless oil prices were over $100/bbl! Cost-cutting and corruption reduction have significantly reduced Russia’s reliance on high oil prices, allowing them to gain market share even while prices fall.

Given their massive consumption of oil – 20 MMbpd, or 20% of global oil consumption – the U.S. has historically shown a bias towards lower oil prices. President Trump certainly continued this trend in the lead-up to the midterm elections, spurring OPEC to increase production while also granting waivers to several countries and allowing them to maintain their oil trade with Iran. He’s even considered making withdrawals from America’s Strategic Petroleum Reserve, which would temporarily cause U.S. prices to drop lower. Although Americans reflexively prefer lower oil prices, those low prices are not necessarily in their economic best interests. Although we still consume more oil than we produce, many American companies benefit from higher prices and the ability to produce and export more products. Rising production also benefits the U.S. dollar by reducing trade imbalances, which ultimately makes it cheaper to buy foreign goods. Unless you live in Texas, Oklahoma, the Dakotas, or other prolific production states, you likely still prefer cheaper fuel prices.

Saudi Arabia

Although no longer the world’s largest producer of oil, Saudi Arabia is arguably the most influential country on the international oil stage. Not only are the Saudis in the most volatile area among the top three producers, they also choose to act directly upon the market. Saudi Aramco, the largest oil company in the world, is owned and operated by the Saudi government. Contrast that with American production, which is distributed among hundreds of private companies. Saudi Aramco’s centralization allows them to flex their production muscle, balancing global supplies to influence prices higher or lower. For the past few years, until the middle of 2018, Saudi Aramco was expected to undergo an initial public offering (IPO) to list its stock on a major international stock exchange, forcing the company to be more transparent with its records and strategy. The Saudis planned to use the funds raised – expected to be billions of dollars – to fund the diversification of the Saudi economy away from oil. 16

2019 Forecast

What the Analysts Say Phil Verleger

Dr. Phillip Verleger, President of PKVerleger LLC, is a seasoned oil economist who has advised several presidential administrations on energy. Verleger has become quite popular this year for a paper he authored predicting that IMO 2020 could send oil prices surging above $160/bbl by 2020. According to Verleger’s report, diesel production will have to increase by 7%, not including 3% growth in transportation consumption. Most concerning – up to 50% of all refineries worldwide would not be able to produce fuel meeting the new specs. Verleger equates the IMO 2020 regulatory change to 2007-2008 when the U.S. shifted to ultra-low sulfur diesel (15 ppm, down from 500 ppm) for all on-road consumption. Although ULSD markets have since calmed down, there was major price volatility during the transition. As Verleger summarizes, “The IMO regulation on marine-fuel sulfur content, if left unchanged, will likely have widespread impacts on the petroleum sector.” So far, any attempts to change or delay the implementation have been flatly rejected by the IMO.

Art Berman Art Berman, a well-known oil analyst who accurately predicted the 2014 oil price collapse, is bearish over the coming year. Berman is most known for his comparative inventory formula, which compares current inventories to their historical average level and plots those changes against prices. According to Berman’s analysis, comparative inventory (current inventory minus the 5-year average) bottomed out in August at roughly 66 million barrels below average, and have since trended closer to the average. Given the abundance of global supplies and expectations for further increases, Berman expects prices to trend lower in 2019 relative to the $65-75 range 17

WTI prices stayed in during 2018. He does clarify, though, that his forecast for lower prices should not be construed to mean prices will collapse as they did in 2014 and 2015; he forecasts a mild price decline in 2019.

Tom Kloza Tom Kloza, Global Head of Energy Analysis for OPIS, is a prolific writer and commentator in the fuels industry, and he views 2019 as a particularly volatile year. In October, Kloza wrote he’d be nervous to bet that international oil prices remain between $50 and $100 for the whole year, arguing that both sub-$50/bbl and above $100/bbl crude are possible in 2019. He notes IMO 2020, declining preference for stocks and bonds, and politics are potential drivers which could send oil rocketing above $100. On the flip side, Kloza argued that trade politics and alternative fuels could cause sub-$50 prices. The large variability in Kloza’s forecast – not even committing to a $50 range for 2019 – shows just how volatile the year could be for fuel consumers.

Andy Weissman Andy Weissman, CEO of EBW AnalyticsGroup, spoke at Mansfield’s DeliveryONE Expo in August, and he shared that while the near-term future for oil prices is quite unpredictable, he’s bearish on oil prices over the next three to five years. Short-term prices are subject to large price swings from political shifts such as tariffs, sanctions, and supply outages. Over the longer term, however, fundamental shifts in global energy trends will play a much larger role in oil prices. Alternative fuels such as electric vehicles and CNG (for cars) and LNG (for marine vessels) will steal some of oil’s market share, causing a sharp break lower for oil prices. Given mounting political pressure related to climate change, the energy transition is likely to accelerate over the next few years, placing even more pressure on oil demand.

2019 Forecast

Events to Monitor in 2019

Having considered the forecasts from several prominent sources, it’s clear there are a variety of perspectives at play regarding 2019. Some are bearish, others are bullish – but none can perfectly predict what will happen next year. What we can accurately predict in 2019 is the specific events scheduled to take place. Around the world, there are some major trends that could influence oil supply, demand, or both.

January 1 – OPEC Production Cut Implementation At the time of this writing, OPEC has not yet officially agreed to a production cut, but all signs point to an agreement from 1–1.4 MMbpd in 2019. Thus, January 1 will mark the beginning of OPEC’s renewed effort to balance the market, a strategy from which OPEC strayed in the latter half of 2018. Of course, no one will know on Jan. 1 whether the cuts will be followed. Agreements to cut production are only significant if they result in concrete action. Regardless of the stated size of OPEC’s cut, the real question will be compliance. Those who followed the market in 2017 are familiar with the history – OPEC excels at talking up the market but is notorious for failing to follow through. The other important question is whether the cuts will be enough – or whether they’ll be too much. Since agreeing to quotas in November 2016, OPEC has done a fairly good job avoiding too harsh an increase in fuel prices – avoiding the sudden price shocks seen in decades past. The organization lifted its quotas in 2018 when the market became too tight, causing prices to drop a bit lower. Their slow, methodical approach may yet prove sufficient to keep prices in line with their unspoken $70-$80/bbl objective.

February 16 – Nigerian Elections Nigeria, Africa’s largest oil producer, will hold its presidential election on February 16. Barclays’ head of energy market research Michael Cohen told investors in October that Nigerian elections could be one of the most important events for oil markets in 2019, possibly causing crude prices to hit triple digits. The People’s Democratic Party are trying to unseat the incumbent, President Buhari. Nigeria is still a relatively young democracy, transitioning from military rule in 1999. Even after becoming a democracy, the PDP was the ruling party until 2015, when President Buhari and the All Progressives Congress won the election – Nigeria’s first successful transition of power between political parties. If the PDP and their candidate, Atiku Abubakar, are successful in winning the presidency, Barclays postulates that Abubakar would have to renegotiate the deal signed with Nigerian militants; otherwise, militants could once again attack Nigeria’s oil infrastructure. In 2016, militant groups caused a 400 kbpd decline in production, and they could do similar damage or worse with future attacks. Pre-election protests and violence could also cause significant production outages. Nigeria produces 2.5 MMbpd of oil, so any instability in their production is sure to ripple quickly through international oil prices.

March 29 – Brexit Becomes Official

Brexit – the United Kingdom’s official exit from the European Union – has been lingering in the backdrop of the global economy since UK voters chose to exit on June 23, 2016. According to EU policies, countries must wait two years after declaring their intention to leave the EU before actually exiting. The UK gave their notice in 2017, putting the official break-up date in 2019. 18

After March 29, the UK and the EU will likely agree to a transition period lasting through December 31, 2020, during which time the EU’s laws will still apply. During this time, the UK would be able to negotiate new trade deals and international agreements, but those would not go into effect until 2021. If the two entities cannot agree to a transition period, their relationship would be immediately terminated (often called “hard Brexit”) resulting in harsh economic repercussions to both parties. The UK is the fifth largest economy in the world, and the EU collectively is the second largest economy. If the two cannot amicably navigate the break-up process, both could suffer significant economic consequences, which would ripple globally and reduce global oil demand.

May 4 – Iran Sanction Waivers Expire

Just before the November 2018 re-imposition of tariffs on Iran, President Trump announced that eight countries had received a waiver from sanctions, allowing them to continue purchasing some level of Iranian oil. That announcement kicked off a long series of market losses that brought WTI crude from $63 down to $50. Those waivers, though, last only six months. Although countries are already applying for extensions, the Trump administration is back to towing a hardline approach, claiming a goal of zero Iranian exports in 2019. The waivers, which came just days before the midterm elections, came at a highly political moment in the U.S.; May will have no such political tension to incentivize more waivers. The eight countries receiving waivers – China, India, South Korea, Japan, Italy, Greece, Taiwan and Turkey – make up roughly 75% of Iran’s trade, meaning a sizable portion of their trade continues until waivers expire. If the Trump administration cracks down and denies extensions, markets will take a hard hit. Iranian production has already fallen roughly 1 MMbpd since its peak in 2018; fully enforced sanctions could cause the market much more pain in 2019.

Spring 2019 – Libyan Elections

Libya’s elections were scheduled to occur on December 1, 2018, but were postponed because the nation’s rival governments in the east and the west did not agreed to a new constitution in time. A political standoff between the two groups could jeopardize production next year. Not only are analysts concerned that oil could be used as a political weapon, Libya also struggles with militant groups shutting down production fields. Libya is already known for oil production instability – in June and July, they saw their 1 MMbpd production fall 85% before coming back online. Considering that markets plummeted by $20/bbl when they found out Iran sanction waivers would allow roughly 1 MMbpd of Iranian product to keep flowing – imagine how significant another 850 kbpd production loss would be.

H2 2019 – IMO 2020 Implementation

IMO 2020, the International Maritime Organization’s policy change that will dramatically reduce allowable sulfur content in maritime fuel, has become a major headline event for fuel markets. Worldwide, oil suppliers are considering how they will meet the new fuel spec and what they’ll do with the high-sulfur fuels they currently produce. The latter half of 2019 – especially Q3 – will be crunch time for refiners to make any output changes. Refineries typically undergo maintenance during the fall, so Q3 will be their last opportunity to tweak output before the regulation goes into effect. Much has been written on the potential impacts of IMO 2020 on gasoline and diesel prices. Some economists have predicted crude oil skyrocketing to

2019 Forecast $200/bbl, though the general consensus is that IMO 2020 will cause diesel prices to rise between 15-25 cents, perhaps skewed higher during the early days of implementation. For information about IMO 2020, look back to FN360 Q2 for our in-depth analysis of the diesel fuel implications of IMO 2020 and how fleets can prepare for the change.

H2 2019 and Beyond – Crude Pipelines Completed in Permian

As noted above, American producers are struggling with the logistics of getting oil to market. Although Permian production is exploding, little of that oil is flowing to Cushing, OK or to the Gulf for export. Instead, it’s been trapped in West Texas, waiting for pipeline projects to increase capacity. Oil prices in Midland Texas are lower than NYMEX WTI, which is based on Cushing, OK stocks. Early in 2018, Midland prices traded at up to $15/bbl discounts to WTI Cushing. In recent months that discount has narrowed to $5-$10 per barrel. Producers expect pipeline constraints to improve as early as Q3 2019, though others forecast no relief until 2020. The forward price curve shows the Midland-Cushing spread narrowing in August 2019, with the two products reaching parity by December 2019. Pipeline capacity is an important factor in global supply/demand dynamics. Record production levels are irrelevant if that product can’t reach consumers. The completion of pipelines to carry Permian products to the Gulf for export will unleash American oil to the world, alleviating much of the tightness experienced in other parts of the world while improving our production economics.

Preparing for 2019

Everyone has an opinion about where fuel prices will go, but not everyone will be correct. In fact, it’s impossible to know which of the forecasts above, if any, will prove to be correct. As economist John Galbraith stated, “We have two classes of forecasters: those who don’t know – and those who don’t know they don’t know.” The most important takeaway from a review of 2019 forecasts is that many smart forecasters come to different conclusions, and they may all be wrong. For fuel consumers, this uncertainty makes budgeting for the upcoming year incredibly difficult. The best way to budget for 2019 is using the diesel forward curve, which shows future prices for each month and stretches years into the future. The forward curve is not a prediction of what will happen in the future, though – merely a best guess the market is making based on current trends. Like oil prices, the forward curve is moving up and down every minute of every day, so it’s a constantly moving target. What differentiates the forward curve from all other predictions is that you can purchase the curve today, guaranteeing your fuel prices in 2019 even before the year begins. Learn more about why consumers choose fixed fuel prices on page 42. Given the wide variety of agency, bank, and analyst predictions for 2019, it’s dangerous to pick any one to guide your 2019 budget. Rather, using the forward curve and a summary of the analysis from leading groups, you can plan your fuel budget today and benchmark it against analyst expectations. Only by locking in your fuel prices can you ensure you achieve your fuel budget in 2019. • 19

F U N D A M E N TA L S

Overview

The global market grew a bit more bullish throughout Q3, and projections for the remainder of the year and 2019 show a mixture of small builds and draws based on seasonality. Yet that gave way to a steeply bearish market in October and November as the world catapulted into supply abundance. Overall, the outlook going forward appears well supplied, though tightening in the latter half of 2019.

World Supply/Demand Balance

Consumers should keep in mind, however, that supply/demand risk tends to be asymmetric. Supply outages resulting from geopolitical incidents or infrastructure damage can cause supply to rapidly tighten, yet a surprise abundance of supply rarely occurs without warning. Demand, on the other hand, is more balanced â&#x20AC;&#x201C; the global economy could outperform or experience slow growth. Thus, when markets are balanced, traders should be more concerned with upside price risk from supply outages.

Source: Energy Information Administration (EIA)

ÂŠ 2018 Mansfield Energy Corp

The number of factors creating supply risks certainly are not lacking. Libya has brought much of their supply back online, yet the country frequently suffers from outages that swing global supplies by up to a million barrels per day. Venezuela is a significant risk factor. The regime has seen production plummet, and any acceleration in instability could cause global supplies to fall further. Of course, localized outages (such as the Syncrude outage in Canada) can leave supplies stranded and cause global disruptions. Depending on how much spare capacity exists in the global supply chain, surprise supply outages could be offset with new production. For instance, with Iranian production outages and declining Venezuelan output, Saudi Arabia and Russia chose to increase production to ensure sufficient supplies (and, of course, to enjoy increased revenue). But as markets become more balanced, that spare supply becomes less available.

Fundamentals Spare capacity is officially defined as the amount of supply that can be brought to market within 30 days and sustained for over 90 days. Emergency storage reserves would not count towards spare capacity as they are not meant to last over three months. OPEC’s spare capacity is used as a global indicator of available supplies. Unlike market-driven producers who pump oil whenever profitable, OPEC nations are more strategic with supplies, choosing to leave some spare capacity when markets do not need the extra supplies.

With Iranian production offline and Venezuelan output cratering, OPEC’s spare capacity has been dwindling. Capacity has fallen from over 2 MMbpd in 2017 down below 1.5 MMbpd, with more decreases forecast in 2019 assuming no supply cuts. Without spare supplies, the global balance of supply and demand becomes more precarious. While OPEC can decrease supplies if global demand tapers down, it has less ability to offset a major supply outage. The lack of spare capacity adds a significant risk premium to markets, which explains why markets have been balanced for a year but have only recently re-approached the $70/bbl level. •

OPEC Spare Capacity

Source: Energy Information Administration (EIA)

Inventories

Crude Stocks 5-Yr Range

Inventories have been a mixed bag this year, with some product well above average while others trend below historical ranges. Crude inventories in the U.S. have been right on par with average, barely straying from the 2013-2017 average level. Of course, monitoring five-year ranges only tells one part of the story. While it shows how crude supplies have fared relative to recent years, it excludes historical data when supplies were tighter. Over the past five years, crude inventories have shown a wide range, from a low of 320 million barrels to a high of over 530 million barrels. With a range that large, it’s unsurprising inventories this year have fallen within the five-year range. The latter portion of 2018 has brought a rapid increase in inventory levels, causing stocks to rise from below the 2013-17 average to slightly above it. A fall build of crude oil is expected – refineries undergo maintenance each fall, reducing crude oil demand. Paired with record-high crude production in the U.S., crude stocks have risen even faster than average, though still directionally in line with historical trends.

Source: Energy Information Administration (EIA)

Fundamentals

Days of Crude Supply vs. Crude Price

Source: Energy Information Administration (EIA) and New York Mercantile Exchange (NYMEX)

The five-year range also leaves out another important factor – demand. While stocks are equivalent to their historical average, global demand pushes new heights each year. Days of supply are a better indicator of market tightness. In Q3, crude days of supply hit their lowest point since 2015, with just 22.3 days of supply to end the quarter. Compare this to 2017, when America enjoyed 29.6 days of supply, and you’ll see why prices soared higher over the summer.

Diesel Inventories 5-Yr Range

Source: Energy Information Administration (EIA)

Gasoline Inventories 5-Yr Range

Looking at fuel markets, diesel has been far below historical averages this year, though Q3 saw stocks come back above multi-year lows. At the same time, diesel prices have risen to multi-year highs. Last year in Q3, diesel inventories declined slightly due to Hurricane Harvey, a highly counter-seasonal move. This year, stocks rose strongly throughout Q3 as markets put away supply ahead of fall and winter demand. Unlike crude and diesel inventories, gasoline stocks actually crept above their five-year range in Q3, though overall, the quarter ended lower than it began. Stocks began Q3 at 239.0 MMbbls and ended at 235.7 MMbbls, though both August and September saw an upward trend. Despite some steady draws in October during maintenance season, gasoline inventories are preparing for their holiday rally – with stocks likely to remain well above the five-year range.

Source: Energy Information Administration (EIA)

Gasoline stocks usually decline during the summer due to strong driving demand. With kids out of school and enjoyable weather outside, road trips and gasoline consumption rise. This summer, although demand was relatively strong, refinery outputs have ensured an abundance of supply. •

Fundamentals

Refinery Activity

In the U.S., refining activity has been indicative of overall fuel price performance. While crude stocks have been average, refiners have had a strong incentive to keep pumping out more fuel. Crack spreads have been strongly favorable for refiners. 3:2:1 crack spreads, which represent the profit from converting three barrels of crude into two barrels of gasoline and one barrel of diesel, have crept up steadily over the past few years, from $13.93/bbl in 2016 Q3 to $18.65/bbl this past quarter. At a regional level, individual refiners may have even better economics. Refiners in Chicago, for instance, can buy extremely cheap Canadian crude, and ship it east to Pittsburgh or south towards the Gulf Coast to capitalize on much higher fuel prices.

3:2:1 Crack Spreads

Refineries go down for maintenance each fall, and typically refinery utilization declines significantly following August 1. This year, however, utilization remained strong through August and into September before rapidly declining. When crack spreads are high, refiners must balance lost revenue against the need to undergo maintenance for the winter. This was quite clear in the Midwest, where refinery utilization hovered around 100% through August and waited quite late to move to maintenance season. The Midwest is unique because the region experiences extremely heavy diesel demand during the fall harvest season – the same time refineries are offline for maintenance. This year’s fall dynamic is explained in depth on page 31. •

Source: New York Mercantile Exchange (NYMEX)

Refinery Utilization

Source: Energy Information Administration (EIA)

U.S. Crude Production

Amid a global supply picture riddled with outages, American production stands out as a shining growth area. Yet, even in America, production faces challenges. U.S. production surpassed 11 million barrels per day in July – a record high that puts the U.S. in competition with Russia for top producer. Production has been largely driven by growth in the Permian basin, located in West Texas.

Even though U.S. production has seen explosive growth, its concentration in one area has caused some logistical troubles. Takeaway pipeline capacity from Midland Texas to the Gulf Coast, where it can be exported, is extremely tight. The constraint has pushed Midland WTI prices far lower than prices in Cushing (the delivery point for NYMEX crude) – exceeding $15 below NYMEX WTI. That means when WTI prices are trading at $65/bbl, producers in Midland are only making $50 – hardly above breakeven.

Source: Energy Information Administration (EIA)

“In what quarter do you expect crude oil pipeline capacity will be sufficient to alleviate the current takeaway constraints in the Permian Basin?”

The lack of infrastructure to transport products has caused producers to curtail their Permian output. Increasing output would only steepen the Midland WTI discount. Producers have instead opted to wait until takeaway capacity improves, which could take quite some time. According to a survey from the Federal Reserve Bank of Dallas, few exploration and production companies expect the situation to improve until the latter half of 2019. Until then, expect U.S. production to remain trapped in Midland. • 24

Source: Federal Reserve Bank of Dallas Survey

Fundamentals

Exports

Exports are still a relatively new component of American oil markets, yet play an extremely important role in current energy trends. Until December 2015, all crude exports were banned except a small trickle of light condensates shipped to Canada. Today, U.S. exports travel all over the world, with the top three destinations being China, Canada and the EU. Even after the crude export ban was lifted, infrastructure took a while to come online. The biggest export location from the U.S. is the LOOP (Louisiana Offshore Oil Port). This year, LOOP filled its first ultra-large crude carrier (ULCC) from the port, rather than requiring multiple ships to travel from the shore to the ship to fill these massive tankers.

U.S. Crude Exports

Exports have been particularly important in the context of U.S. production, Iran sanctions and trade wars. With U.S. production trapped in West Texas due to pipeline capacity issues, it’s hard to get American product to market to be sold internationally. In turn, that isolation creates a buffer for U.S. prices relative to international counterparts. Europe, which is heavily reliant on Middle Eastern crude oil, cannot simply turn to the U.S. for assistance. That puts them in a difficult situation, particularly given America’s sanctions on Iran. Moving from the Atlantic to the Pacific, oil exports travelling from the Gulf Coast to China have grown rapidly over the past year, as China now competes with Canada for the designation of top oil export destination. The ongoing trade war with China has put a damper on exports, even though China has taken 25% tariffs on crude oil imports off the table. Whether those tariffs remain off the table is yet to be seen. If China does choose to impose tariffs on American oil, it could quickly cause exporters to hurry to find a new home for their crude. In July, crude exports to China fell from 680 kbpd to just 545, nearly a 20% drop. In August, China’s major state-owned company, Sinopec, cut off September purchases of American crude amid uncertainty from the trade war. However, they later changed their stance and renewed purchases for October delivery.

Source: Energy Information Administration (EIA)

If China does proceed with slapping heavy tariffs on U.S. crude, traders will likely re-route their ships towards Europe. While Europe has significantly increased their purchases of American oil over the past few years, their proximity to the Middle East makes it comparatively cheaper to buy "local." U.S. producers would need to discount their crude somewhat to create a market in Europe, meaning lower WTI prices to incentivize exports. Ultimately, China imposing tariffs on U.S. oil would be a boon to Gulf Coast and European fuel consumers, while hurting American production companies. •

LEGAL

EPA’s 2019 Proposed RVOs Published, August Comment Deadline Set On July 10, the EPA’s proposed 2019 Renewable Volume Obligations (RVOs) under the Renewable Fuel Standard Program were formally published in the Federal Register.

Back on June 26, the EPA had proposed a total 2019 RVO of 19.88 billion gallons – an increase of 590 million gallons over 2018’s requirement. Within that overall number, the EPA maintained the volume requirement for conventional biofuel (corn-based ethanol) at 15 billion gallons – the maximum level allowed by statute. The proposed 2019 RVO for advanced biofuel is 4.88 billion gallons, an increase from 2018’s 4.29 billion gallons. •

Proposed and Final Renewable Fuel Volume Requirements for 2018–2020 2018

2019

2020

Cellulosic Biofuel (million gallons)

288

381

N/A

Biomass-based Diesel (billion gallons)

2.1

N/A*

2.43

Advanced Biofuel (billion gallons)

4.29

4.88

N/A

Renewable Fuel (billion gallons)

19.29

19.88

N/A

Implied Conventional Biofuel (billion gallons)

N/A

*The biomass-based diesel standard for 2019 was set at 2.1 billion gallons in 2018 and cannot be changed.

Biodiesel Producers Drop Support for Production Credit In June, the National Biodiesel Board (NBB) announced that it is terminating its support for a producers’ excise tax credit in favor of the existing blenders’ tax credit. This change in position may affect support for the American Renewable Fuel and Job Creation Act of 2017 (S. 944), a bill introduced by Senators Chuck Grassley (R-IA) and Maria Cantwell (D-WA) that would change the credit from a blenders’ credit to a producers’ credit. The NBB stated that its change in position reflects the success of the trade cases brought against Indonesia and Argentina in preventing imports of “illegally dumped and subsidized biodiesel.” In addition, the NBB said the change will allow the domestic biodiesel industry to “work in unison with the growers, producers, marketers, truck stops, and convenience stores to achieve a long-term extension of a blenders’ tax credit.” •

Legal

Gas Taxes Increase in Seven States

Effective July 1, gas taxes increased in seven states, with the new revenue mostly being used for infrastructure maintenance and construction projects. The increases are as follows: Oklahoma – The gas tax rose by 3 cents per gallon and the diesel tax by 6 cents. South Carolina – Gas and diesel taxes each rose by 2 cents per gallon as part of the second stage of a sixpart increase. By 2022, the gas tax will rise by a total of 12 cents per gallon. Indiana – The gas tax increased by 1 cent per gallon and the diesel tax rose by 1 cent. Both taxes are now updated annually to keep pace with inflation and the rate of personal income growth in the state. Maryland – Gas and diesel taxes each rose by 1.5 cents per gallon under a formula that ties the tax rate to increases in inflation and the price of motor fuel.

Tennessee – The gas tax rose this year by 1 cent per gallon and the diesel tax by 3 cents. Next year, Tennessee will see another 1 cent gas tax and 3 cent diesel tax increase, for a total increase of 6 cents and 10 cents, respectively, for gas and diesel taxes since last year. Vermont – The gas tax, which is tied to gasoline prices, increased by 0.42 cents per gallon. Diesel taxes remained unchanged. Iowa – Taxes for gasoline not blended with ethanol increased by 0.2 cents per gallon. As most fuel that is sold in Iowa is blended, the practical effect of the increase will be minimal. Connecticut – The diesel gas tax rose 2.2 cents to 43.9 cents per gallon, while the gas tax remained unchanged. •

RFS Refinery Waivers Challenged Even as EPA Seeks to Help Refiners Previously Denied

These challenges come even as the EPA continues to provide refiners assistance with RFS compliance costs. On May 31, the EPA reportedly gave refiners HollyFrontier Corp. and Sinclair Oil Corp. RFS blending credits valued at millions of dollars. HollyFrontier received about $34 million in credits, while Sinclair did not say how much it received. These credits were provided to the refiners by the EPA after a court ruled that they were improperly denied waivers dating back to 2014. Specifically, a federal appellate court in Colorado said in August 2017 that Sinclair had been improperly denied waivers and ordered the EPA to come up with a remedy. A similar HollyFrontier case was sent back to the EPA at the agency’s request after being put on hold during the Sinclair case.

The coalition, which is comprised of the Renewable Fuels Association (RFA), the National Corn Growers Association, the American Coalition for Ethanol, and the National Farmers Union, is not challenging the EPA’s overall authority to grant such waivers, but rather three specific waivers granted to refineries it believes do not meet the waiver’s “disproportionate hardship” requirement, nor the definition of “small.” Specifically, the alliance is challenging three waivers granted to CVR Refining's Wynnewood, OK refinery and the HollyFrontier refineries at Cheyenne, WY and Woods Cross, UT. The refineries have saved $170 million overall in compliance expenses due to the waivers.

Finally, the EPA saw additional RFS-related action from refiners when oil industry and refiner groups told the D.C. Circuit Court that 2017 RFS blending volumes were improperly set. The groups said in a reply brief that the EPA did not adequately take into account the fact that production, distribution, and use of renewable fuels have fallen below statutorily-mandated levels for several years. The EPA, however, maintains that it followed the proper process to set standards. •

Earlier this summer, a coalition of ethanol and farm groups filed a suit against the EPA seeking to overturn some of the agency’s recent waiver decisions. EPA has granted several waivers under the small refinery waiver exemption provided by the Renewable Fuel Standard (RFS) program, alleviating the refineries’ biofuel blending obligations.

Nevertheless, the EPA’s decision to remedy the issue by releasing “vintage” blending credits to the refiners marks the first known time the agency has issued blending credits from prior years into the current market. The EPA said its decision was “narrow in scope and consistent with direction from the 10th Circuit.” The agency also said it may continue to review prior year waiver denials, though it is reportedly not currently reviewing any cases outside those of HollyFrontier and Sinclair.

In its petition to the court, the coalition also criticized the lack of transparency in the waiver process, as the EPA did not publish the waivers or otherwise “provide public notice that it had received or had acted upon any requests for an extension of a small refinery exemption.” The petition further notes that the EPA has refused to provide even basic information requested in Freedom of Information Act (FOIA) requests from journalists, RFA , other parties and even Members of Congress. The small refinery waivers were separately challenged by the Advanced Biofuels Association back on May 1. The legal challenges will be heard in the U.S. Court of Appeals for the 10th Circuit. 27

REGIONAL VIEWS Gabe Aucar, Senior Supply Manager See his bio, page 44

Gulf Coast & Southeast

Q3’s market activity was well aligned with our bearish expectations, with refineries running at full capacity in an already over supplied market. Q4 began during the latter half of hurricane season, bringing Hurricane Florence to the Carolinas and Hurricane Michael to the Gulf. The season brought short-lived volatility, and a weakening of basis heading into the year end. Diesel should start to see stock builds as refiners prepare for winter, contributing to the seasonally anticipated draws in gasoline stocks. The bearish market outlook in the Southeast and Gulf Coast is also reflected in the Gulf Coast crack spreads and EIA weekly data. •

Mexican Sulfur Cap to Boost ULSD Import Demand Regulation passed in 2016 by Mexico’s Energy Regulatory Commission (CRE) will ban 500ppm sulfur diesel — currently 24% of Mexico's diesel consumption — by January 1, 2019. Based on June 2018 data, the switch could mean a 36% increase in ULSD imports at a time of heightened global demand for ULSD. The ruling poses a major challenge for staterun Pemex, as domestic ULSD production only meets about 9% of demand, and only three of its six refineries can produce the low-sulfur fuel. If the mandate for 2019 prevails, the 100,000 b/d demand will hit U.S. markets as early as this fall.

Mexico is already the largest destination of U.S. ULSD exports. A 100,000 b/d increase in demand will be a boon to U.S. refiners. U.S. exported 266,000 b/d of ULSD to Mexico in May 2018, according to the U.S. Energy Information Administration (EIA). ULSD exports to Mexico also amount to nearly half of the ULSD moved on the Colonial pipeline, the main artery of the U.S. domestic supply system from the Gulf coast to New York Harbor and the benchmark price for diesel exports. • 28

Regional Views

U.S. Gulf Coast Refiners Competing Aggressively in Florida amid Ample Supplies The U.S. Southeast has been the gasoline dumping ground for Gulf Coast refiners, and it shows in the poor wholesale fuel spreads in the Southeast. In the longer run, it remains to be seen if Gulf Coast refiners would maintain the higher refinery utilization rates as the Southeast fuel storage capacities fill. The bearish market outlook in the Southeast and Gulf Coast is reflected on the Gulf Coast crack spreads and EIA weekly data. The Gulf Coast 3-2-1 crack spread, representing refiner margins from blending three barrels of crude into two barrels of gasoline and one barrel of diesel, has dropped to about $6/bbl from a more common spread of $11/bbl. The market does not see an end to this bloated Southeast fuel situation anytime soon, despite significant hurricane activity this year. â&#x20AC;˘

ÂŠ 2018 Mansfield Energy Corp

Regional Views

Josh Wakeman, Regional Supply Expert

Northeast

Overview

Last quarter produced a bearish market in the northeast for diesel. Markets were long, producing weak netbacks through the summer months leading into the core part of hurricane season. The northeast market is forecasted to gain strength through fall turnarounds and the winter weather patterns. Gasoline netbacks gained some strength this past quarter with the summer driving season. Netbacks should weaken as winter approaches; however, hurricane activity in the Southeast did create a bit of a ripple effect farther north. •

PES Emerges from Bankruptcy

Philadelphia Energy Solutions (PES) emerged from an 8-month bankruptcy stint with the approval of their restructuring plan by the United States Bankruptcy court. PES claimed RFS standards were the main cause of financial troubles and declared bankruptcy to receive a waiver for a portion of their RFS debt. This is one of the largest refineries to receive a waiver due to hardship, as waivers are typically reserved for smaller refineries. PES is the largest refinery in the East Coast region, and its emergence from bankruptcy will preserve numerous jobs in the area. •

Laurel Pipeline Saga Continues

Over the year, Laurel pipeline reversal or bidirectional flow has been a prime topic—and an unknown future. After Pennsylvania’s Public Utility Commission denied the request to reverse the flow, Buckeye filed for FERC approval of bidirectional flow. The debate now becomes state vs. federal – whose approval is required to reverse the flow or provide a bidirectional option for the line? Given the Laurel Pipeline runs only through Pennsylvania, there is an argument that state jurisdiction is in order; on the other hand, other pipelines connect to the Laurel line outside the state and transport goods across state lines. East coast refiners continue battling to appeal the reversal and bidirectional proposals from Buckeye, fighting to maintain market share in El Dorado, PA and eastward. Buckeye performed hydro-testing in September, which some believe is prep work for bidirectional flow. The Laurel pipeline debate is far from over, and the discussion could prove a critical part in shaping the northeast supply realm in the future. • 30

Regional Views

Nate Kovacevich, Senior Supply Manager See his bio, page 44

Central

Midwest Refinery Maintenance Schedule Heats Up in September

On August 24, Midwest refineries (PADD 2) showed a refinery utilization rate running at a staggering 100%, highlighting extremely attractive crack spreads throughout the mid-continent ahead of the end of summer driving season. Like last year, through the week ending August 31, refinery capacity has averaged over 95% for the year for PADD 2. In fact, in late August last year utilization peaked at 101.7%. This year’s increase to 100% is typical ahead of Labor Day. Although capacity reached extreme highs this year, capacity moved lower over the next several weeks as a number of refineries in the upper-Midwest went down for planned maintenance. Last year, utilization dropped to a low of 84.2% in the middle of October.

PADD 2 Midwest Refinery Utilization

Source: Energy Information Administration (EIA)

Nationally, U.S. refinery maintenance this fall is set to be roughly 15% higher than normal, led by robust activity in the Midwest. BP began work at its massive Whiting, IN refinery in early September, with downtime expected to last 45-60 days. Also, Andeavor’s St. Paul Park, MN refinery went through planned turnaround in the middle of September, and Flint Hill’s Pine Bend, MN refinery scheduled work in September as well. Finally, HollyFrontier is had a major overhaul done at its 135,000 bpd El Dorado, KS refinery in late September, lasting several weeks. The season’s heavy refinery maintenance activity comes right as fuel demand picks up due to the harvest season. The lack of production, combined with high seasonal demand, should make the end of Q4 an interesting period for Midwest diesel markets. •

Regional Views

Amy Nguyen, Regional Supply Expert

West

Overview

In Q3, gas and diesel prices were on the rise, a common occurrence as drivers flock to the roads and demand rises. This year brought the most expensive summer prices at the pump since 2014, when gas averaged $3.60 around Labor Day Weekend and diesel prices were nearly $4 per gallon. As we move towards the fall and winter season, I expect fuel prices to drop barring any natural disasters that may occur in the region. Q4 has brought lower prices as refineries switch to winter blend gasoline. •

California to Block Offshore Drilling

Earlier this year, the Trump administration released plans to open offshore areas in the U.S. to oil and gas drilling and exploration. The initiative, set to begin in 2019, was met with mixed emotions. Some states were open to the new drilling opportunities, while states like California were strongly opposed. Although drilling could lead to more abundant oil supplies and lower fuel prices, Californians are unwilling to threaten environment for lower costs. California has held this mindset for years, fearing drilling would harm the environment and create public health issues. In September, California took further action against the Trump Administration by passing Senate Bill 834. The Bill prohibits the States Lands Commission from allowing any new pipelines or facilities from the state's shoreline out to three miles offshore to be used for expanding oil production. For thirty years, California has not had any expansions of government drilling along their coastline, and this latest action ensures that no further activity can take place. •

Pacific Northwest Faces Crude Supply Uncertainty

Refineries in the Pacific Northwest (PNW) Region are growing increasingly concerned over future supply prospects. Local refineries primarily rely on crude from Canada and Alaska, delivered via the Trans Mountain Pipeline. Despite an initiative to expand the Canadian pipeline, however, opponents have lobbied to block any progress due to environmental concerns. In late August, the Canadian court ruled to freeze plans to expand the pipeline as the pipeline's potential effects on British Columbia coastline hasn't been thoroughly assessed yet. Decisions on the Trans Mountain Pipeline will have a direct impact on Pacific Northwest fuel supplies. As production has grown and refining throughputs have risen, the Pacific Northwest has begun looking beyond Canada and Alaska for supply. Among other options, operators are beginning to procure more oil from Russia. The U.S. has imported Russian crude since 1995, and PNW imports may grow even more as oil production declines in Alaska and the Trans Mountain Pipeline reaches maximum capacity. The move is ironic given tensions between the U.S. and Russia. Further complicating matters, Congress could potentially propose sanctions suspending Russian oil exports to the U.S., cutting local oil supplies even tighter. • 32

Regional Views

Nate Kovacevich, Senior Supply Manager See his bio, page 44

Canada

Western Canadian Oil Inventories Grow as Refinery Turnarounds Approach

Prices for Canadian crude oil dropped sharply in August as Suncor completed repairs to Alberta’s second largest oil sands upgrader and production jumped at its new Fort Hills oil sands mine. The mine is expected to increase to 90 percent capacity in the next few months. The timing of increased supplies is not ideal, considering a number of U.S. refineries in the Midwest are reducing their crude demand during turnarounds. According to Genscape, Western Canadian oil inventories rose 4.3 million barrels to 36.3 million barrels in late August. The discount for Western Canadian Select dropped to -$30/bbl in August, and the differential ultimately fell as low as -$45/bbl in October, where it’s remained for several weeks. Canada’s Synthetic crude has dropped from trading at a slight premium to WTI to a nearly $8 discount. Furthermore, Edmonton Mixed Select crude oil dropped about $10/bbl from where it was trading during the summer. The light-grade Canadian crude oil is trading at its biggest discount to WTI since 2014. •

Canadian Appeals Court Rejects Trans Mountain Pipeline Project

The Federal Court of Appeal shut down the Trans Mountain pipeline project in late August, ruling that the federal government had not fulfilled its obligation to meaningfully consult with impacted indigenous groups. The court found the National Energy Board’s environmental assessment was flawed because it did not properly account for the environmental effects of increased tanker traffic off the British Columbia coast. The court’s suggested remedy orders the Energy Board to redo its assessment after proper consultations with indigenous groups. Canada bought the pipeline project for C$4.5 billion from Kinder Morgan, which had suspended further work on the project due to opposition from the BC government. The expansion would link Alberta’s oil reserves to the West, allowing for increased crude exports to China instead of selling product at steep discounts to the U.S. Despite the setback, Trudeau and the Canadian federal government support of the pipeline project and will seek new approvals following the Court’s decision. • 33

A LT E R N AT I V E F U E L S BIOFUELS

Sara Bonario, Supply Director

The New Dynamics of Renewable Fuels Marketing

See her bio, page 44

Are you tweeting as part of your go to market strategy? If not, you may be missing an opportunity in 140 characters or less to shape the buying habits and beliefs of your customers. The Pew Research Center studied the use of social media and consumption of news and found that more than 50% of Twitter’s American users say they use Twitter for news. The same study found that two-thirds of U.S. adults or 64% use Facebook, and half of those users get news there. This equates to 30% of the general population.1 The use of Twitter and other social media outlets to propel social issues and political policy is new over the last decade but has gained quite a bit of the spotlight as a vehicle for communication and public debate due to the prolific use of it by our sitting U.S. President. Therefore, it is not surprising to see that many ethanol industry groups have taken to social media recently to propel their agenda supporting a year-round E15 waiver. •

Pew Research Center, How social media is reshaping news. By Monica Anderson and Andrea Caumont.

Alternative Fuels

The E15 Debate

Although the use of social media is fairly new, the debate over the use of ethanol in gasoline blends has been ongoing since at least 1990 when Congress enacted an amendment to the Clean Air Act granting a one pound per square inch (PSI) waiver for blends of gasoline with 10% ethanol. The EPA mandates Reid Vapor Pressure (RVP) of 9 lbs or less during warmer summer months. Unblended conventional gasoline meets this 9 lb requirement. While ethanol alone is made up of fairly stable molecules, when blended with gasoline the molecules become less attracted to one another, or more volatile. The increased volatility results not only in increased evaporation, which contributes to ground level ozone formation, but also to an increase in RVP to 10 PSI. The rule enacted by Congress in 1990 granted a waiver for this additional one pound of pressure generated by ethanol blends of 10 percent which quickly become the industry standard – one still in place today. This was thought to be progressive law making at the time. Industry experts did not anticipate there would come a day when higher ethanol blends would be desired. That day came, however, in June 2011 when the EPA approved blends of 15 % ethanol volumes in gasoline for use in model year 2001 and newer passenger cars, lighttrucks and medium-duty vehicles. 2

The EPA has yet to approve a similar 1 pound waiver previously discussed for E15 blends. This prevents ethanol blends higher than 10% from being sold from June 1 – September 15, except to flex fuel vehicles which can take any level of ethanol. The ethanol industry argues that E15 has lower evaporative emissions and thus burns cleaner than E10 and should therefore be granted the same 1 lb waiver. The EPA continues to maintain that it does not have the authority to grant a 1 lb waiver to any fuel blend of gasoline and 10 percent ethanol. In a letter sent to several Midwest Governors in December 2016, the EPA stated the waiver only applies to E10. “The revised statutory language in section 211(h)(4) specifically provides for a 1 psi waiver exclusively for fuel blends of gasoline and 10 percent ethanol …”2 This is the key sticking point between the ethanol industry and the EPA, which has dragged on for several years and remains today. An attempt to change the law in Congress failed in 2017, but the Renewable Fuels Association and others represented by their frequent social media tweets continue to hold firm to the hope that President Donald Trump will grant the E15 waiver year round to fulfill a campaign promise he made. Stay tuned to your social media streams to stay up to date on this and other renewable fuels topics. #E15YearRound!, #RFSWorks.•

Enclosure to a letter EPA sent to Midwest governors on Dec. 22, 2016. (Ethanol Producer Magazine)

Alternative Fuels

Martin Trotter,

NATURAL GAS

Pricing & Structuring Analyst See his bio, page 44

SUPPLY

Natural Gas Production Regions

United States natural gas production growth over the better part of the last decade can be mostly attributed to the Appalachian region, the Permian Basin, and Haynesville regions. In the northeast, the Marcellus and Utica shale plays accounted for nearly 30% of total U.S. production in July. Rising infrastructure investments have helped move additional gas out of the area, quelling the discounts previously seen in the region relative to the national average. For the same time period, the Permian Basin, which produces excess gas from the crude oil drilling process, accounted for over 10% of the nation’s production. This production will continue rising, as several pipeline projects are either in production or scheduled, including: Epic NGL Pipeline, Gulf Coast Express, Permian-Katy, and Pecos Trail. New pipelines will transport gas from fields to additional supply points around and outside the region.

U.S. Natural Gas Production (January, 2007 – July, 2008) Billion cubic feet per day

While Haynesville saw a drop in production from its peak over 5 years ago, increased rig counts resulting from stronger crude prices has driven growth over the past year, pushing production to 6.4 bcf/day, or about 8.5% of national production. •

Change Since July, 2016 Billion cubic feet per day

Source: Energy Information Administration (EIA), Drilling Productivity Report, Natural Gas Monthly, and Short-Term Energy Outlook

Haynesville Region Gas Production (January, 2010 – July, 2018)

Billion cubic feet per day

Source: Energy Information Administration (EIA), Dry Shale Estimates by Play

Alternative Fuels

DEMAND

Daily Natural Gas Deliveries to Con Edison Citygates

Natural Gas Demand Response Tactics

Million cubic feet

In early August, Con Edison Utility in New York was granted $5 Million to pilot a Natural Gas Demand Response program that closely mirrors practices currently in place for Con Edison Electric Customers. Demand response attempts to balance supply by incentivizing users to manage their usage around peak times, typically through time dependent pricing structures. Between 2011 and 2017, daily peak demand rose by 30%. Utilities are hoping that by reshaping usage around peak hours the rise can be managed without additional product or infrastructure. With over 20% additional growth expected over the next two decades, the program may prove necessary. Con Edison proposed economic incentives for commercial, industrial and residential customers willing to reduce demand on peak days. For small commercial and residential customers, Con Edison proposed implementing direct load control devices – which turn power on and off to regulate the amount of natural gas a unit can consume. It is unclear whether these would be operated by the utility or a third party entity. •

Source: Energy Information Administration (EIA)

STORAGE

End of season storage capacity estimates continue to draw the attention of natural gas traders and suppliers. Estimates have pegged ending inventories at 3,324 bcf, close to the 3,250 bcf level as seen at the peak in November. Estimates fell from July’s forecasted ending inventory of 3,470 bcf. But with above average temperatures requiring a record 37.7 bcf per day in July and high temperatures through October, the power sector could continue demanding more gas than normal, limiting injections into inventory.

Meanwhile, researchers in North Dakota are exploring the possibility of boosting storage of underground gas in the heavy oil producing region. In September, the commission approved a grant to study the potential of injecting unprocessed natural gas into rock formations and retrieving it years later. Initial estimates show that gas could be stored underground as a shortterm solution for 3-5 years, allowing natural gas infrastructure and processing in the region to catch up, without forcing operators to limit their crude oil production or incrementally increase the flaring of natural gas. •

Working Gas in Underground Storage Compared with the 5-Year Maximum and Minimum Billion cubic feet

Source: Energy Information Administration (EIA)

VIEWPOINTS

Net Versus Gross Gallons – What’s the Difference? Have you ever questioned why there are two different gallon amounts listed on a BOL (Bill of Lading) for the same delivery? You may have ordered a specific gallon amount (gross) but then were invoiced for a net amount. It’s a common quandary for fuel purchasers.

How Laws of Nature Impact Your Fuel Bill

The discrepancy between net and gross fuel purchasing stems from a law of nature called Thermal Expansion. When molecules are heated, they begin to move more quickly, causing the substance to expand. Conversely, when the molecules cool they move more slowly and the substance contracts. It’s what happens when you bring a helium balloon into a cold

room. As the molecules cool, they lose energy and condense – decreasing the volume inside the balloon and causing it to shrivel and sink.

Like these substances, fuel also expands and contracts depending on the temperature. For example, when 1,000 gallons of fuel is delivered to a location in Texas on a hot summer day, the fuel is pumped into a cool underground storage tank with an average temperature of 50 degrees. The fuel loses volume as it cools. In this situation, a full 1,000 gallons may have been delivered, but the location will have less than 1,000 gallons in its tank.

Viewpoints

How to Measure Fuel Volume Variances

How It Impacts Your Bottom Line

The gross-to-net conversion ensures organizations receive exactly what they purchased. If net gallons is the Since the physical amount of fuel can vary temperature adjusted amount, shouldn’t that measurebetween the loading destination and the delivery ment always be used for billing? Not necessarily. destination, there could be a discrepancy Remember, using net gallons adjusts the volume of fuel between the gallons purchased and the physical to the gallon volume at 60°. If the temperature is below product delivered. To protect both parties from 60°, there would be less physical gallons delivered than the fluctuating fuel volumes, the petroleum represented by the net gallon calculation. For example, industry set a temperature standard by which a company in Minnesota purchasing 7500 gallons of fuel petroleum product volume would be measured. on a cold winter day should be billed gross gallons rather than net gallons. In the U.S., 60°F is considered the temperature at which fuel is “normal” in weight, volume and This is because net gallons are automatically energy content; thus it is the standard temperature adjusted to the amount of volume that temperature used to measure true fuel volume. would exist at 60°F. However, temperatures are generally One gallon of fuel occupies 231 cubic inches of below 60° in northern states, especially during the space at 60°F. Fuel expands as it exceeds 60° and winter months. Billing this customer in net gallons contracts as it falls below 60°. What does that would result in the customer paying for 7500 gallons mean for fuel purchasers? (the volume at 60°), but only receiving 7300 gallons (the actual volume at a lower temperature) due to the There must be an adjustment made in the contraction of the fuel caused by colder weather. For measurement of fuel to determine an accurate this reason, it is important to verify your billing terms measure of volume. The amount of fuel with your fuel provider. dispensed at the rack is called “gross gallons.” The gross gallon amount is adjusted for As a general rule, companies located in warmer, temperature variance based on its specific gravity southern regions should be billed on net gallons, while using a calculation called the thermodynamic those in cooler, northern regions should be billed by formula. The result of this calculation is what you gross gallons. Mansfield uses the Mason-Dixon Line to see listed on the BOL as “net gallons.” In simple determine billing approaches, unless requested terms, Net Gallons = Temperature Adjusted otherwise by the customer. • Gross Gallons.

Viewpoints By Clint Hamlin, Arsenal Fuel Quality Specialist

Winter Fuel Outlook for 2018–19: Be Prepared for Extremes For most of North America, the previous winter was unpredictable to say the least. A New Year’s Day cold snap blanketed a quarter of the country in snow and ice, causing many serious issues with fleet operability. Diesel users noticed fuel gelling at higher temperatures than normal, as high as 0°-5° F in some instances.

While temperature monitoring will tell us a lot about what to expect, the base fuel we use is growing in importance. Last winter cold temperatures came quickly and stayed for longer period of time – a problem compounded by poor fuel quality in many areas. These factors fundamentally changed conventional diesel fuel winter performance. Crude markets last season altered refinery supply chains. With prices low and large arbitrage opportunities from changing crude suppliers, refineries bought from a variety of sources, leading to highly variable feed stocks. Mixing crude blends that varied in API gravity, sulfur content and purity yielded less predictable fuel. Diesel fuel specifications have no useful performance standards related to winter operability, so refiners are not required to ensure fuels hold up at low temperatures.

ASTM Standards call for a 15°F Cloud Point year round in ULSD, and diesel outputs often run closer to 10°F or lower in the winter. Given the variability in feedstocks, those winter changes were less precise in some areas, resulting in higher cloud points and heavier waxes. Fuel lab tests showed high wax contents, requiring much higher kerosene and additive treatment rates than normal. Unprecedented changes in the base fuel were a key culprit behind above-average reports of gelling incidents.

Viewpoints

Why Does Gelling Occur?

In understanding what exactly happened to U.S. diesel last season, it’s helpful to understand why gelling occurs and how kerosene and additive affects the process. Ultra-low sulfur diesel #2 (normal diesel fuel) contains natural waxes called paraffin wax. Tiny wax molecules float in the fuel along with carbon molecules and other substances. Wax is not always a bad thing – when the waxy molecules remain small, they can easily pass through a fuel filter. Paraffin waxes have their perks. Paraffin waxes are combustible, meaning they add power when burned in the engine. Paraffin waxes make up a portion of the energy content in fuel – that’s why most candles are made from paraffin wax. On the flip side, kerosene (also known as diesel #1) has far less paraffin wax, and as a result it has a lower energy content. That’s why you may notice lower fuel efficiency and power when burning kerosene blends. Those waxy paraffins cause problems when they glom together and plug filters. The Cloud Point is the point at which diesel fuel becomes cloudy from waxes lumping together. The colder the weather, the more paraffins drop out of the fuel and gel together. Larger paraffin chunks clog filters, preventing fuel from flowing through. The point at which your filter plugs and operations cease is called the CFPP – Cold

Filter Plug Point. The CFPP is the most important metric for fleet operators, since that’s the point at which operations are disrupted. However, many say the CFPP test is out of date due to its use of a 30 micron filter in the test protocol. Many filters in the field are now 10 microns or less, at times as low as two microns.

Wax Fall Out

In general, when properly treated with winter cold flow additives, the CFPP will be 18° below the Cloud Point – resulting in the 18° Rule. If your fuel is treated with additive and gets cloudy at 10° F, filters will be plugged at -8° F. Without additive, the CFPP could be anywhere from -8° F to +9° F; cold flow additives protect you up to 18° below whatever your fuel’s cloud point is. Kerosene, on the other hand, lowers the Cloud Point, typically buying you 3° lower Cloud Point for each 10% kerosene blended in. In Summary: • Waxes in fuel bind together when temperatures fall and get stuck on fuel filters. • With additives, filters will clog when temperatures are 18° below the Cloud Point. • Kerosene can lower the Cloud Point, giving you additional protection at a rate of 3°F per 10%. • The Cloud Point varies based on refinery production and geography.

Emergency Preparedness

With the contrasting predictions and unpredictability of fuel quality, having a winter fuel plan is essential. Keeping extra stock of winter additive on hand, along with emergency re-liquefier and water dispersant additives, is a simple step consumers can take toward being prepared for sudden extreme temperatures. Being prepared also means knowing what’s going on inside the fuel storage tank. A fuel testing program provides the crucial insight needed to be proactive in protecting the fuel inside the tank from winter weather. Cold flow testing during the winter provides data on fuel samples taken from the dispenser regarding their cold flow properties. Cloud point, cold filter plug point, and water are the key metrics of cold flow testing.

What to Expect This Year

There are two forecasts showing wildly different predictions. Farmer’s Almanac predicts “teeth chattering cold” in the center of the country with extreme cold in the great lakes and north east as well. Across the southern states, predictions are near normal temps and wet in the East and “stinging cold” from Louisiana to New Mexico. The west coast is expected to maintain its typical warm and wet climate.

As the winter begins to creep in, one thing is for sure, no one knows exactly what to expect. As an Eagle Scout, I am reminded of the Boy Scout motto, “Be Prepared.” • Clint Hamlin Arsenal Fuel Quality Specialist Clint is responsible for Mansfield’s customer fuel testing program, additive product inventory and logistics, and Arsenal product marketing. He analyzes companies’ fueling methods, geography, and fuel samples to prescribe fuel additives and services that meet their fuel quality needs.

In contrast, The Old Farmer’s Almanac tells us to prepare for a warm and wet winter almost everywhere, with some cold pockets in the southwest. The publication recommends following the old saying, “Hope for the best, but prepare for the worst.” 41

Viewpoints By Mac Cullens, Manager, Risk & Analysis

Why People Fix Fuel Prices

The past year has been a wild ride for oil prices, with WTI crude catapulting to $75/bbl and crashing to $55 in a matter of weeks. Some consumers felt every jerk and twist of the market, yet others were indifferent to the market’s gyrations. As we head into what appears will be another volatile year, it’s worth asking – why do some consumers choose to ride the market while others lock in fuel price certainty?

Fixed fuel prices ensure your company makes the profits it expects. Something as important as your net income shouldn’t be subject to traders in New York and oil diplomats in the Middle East – your company should be control of its expenses.

Predictable Reporting

The question itself provides the clue. One of the most important reasons some people lock in a fixed price is for certainty. Acclaimed author and entrepreneur Tony Robbins lists certainty as one of the six core human needs - humans require some degree of safety and security to feel comfortable. Just as certainty is a necessity for individuals, it can be quite advantageous for businesses consuming large quantities of fuel. Fuel price certainty provides at least four unique advantages for fuel users:

Financial Stability

For most fuel consuming companies, fuel is a top-five operational expense. When fuel prices rise, there’s a material impact on your company’s bottom line. The more fuel you use, the bigger the impact. Consider this: if your company consumes 1 million gallons per year – just two full truckloads per week – then a mere ten cent price move increases your overall costs by $100,000 per year. In November, prices moved ten cents in just one day! For larger buyers burning 10 million gallons per year, that same price move could take $1 million away from your bottom line. What would a 50-cent increase in fuel prices do to your company’s bottom line? How about $1/gal increase? While prices aren’t likely to increase by a dollar next year, they certainly could. All that’s certain about future prices is how uncertain we are about them today. Is that a risk your company should be taking? 42

Are your operating costs fairly consistent, other than highly volatile fuel prices? Many companies, especially public companies, track quarterly earnings. If fuel prices are higher in Q3 than in Q2 and your profits suffer, your shareholders may punish you despite the loss occurring through no fault of your own. Controlling fuel prices over time is an important benefit for consumers. Fixed fuel prices can be blended to create a full-year rate, so your company pays the same price in July as in January. Forecasting expenses is much simpler when the prices are fixed. This predictability also makes it easy for accounting departments to accrue for past deliveries, taking the hassle out of verifying fuel prices and guessing at market impacts.

Competitive Advantage

Does your company bid on long-term deals for your customers? Some government contracts require that you do not change your price for two or three years. If fuel makes up a significant portion of your operating costs, it might be difficult to commit to three-year pricing without a stable fuel price. Or, perhaps you’re bidding on a project, and you must state your price in advance. Knowing what your fuel price will be before you start the bid is crucial to setting an effective, yet competitive, bid price. Fixed fuel prices ensure that your most volatile spend is managed, so you lock in profitability on those long-term contracts. This may even be a differentiator for you if your competition cannot do the same. The result for you is more, longer-term deals with your customers.

Viewpoints

Budget Certainty

Summary

If you’re the primary fuel buyer for your organization, what matters most to you? Odds are, your first priority is hitting your annual metrics, and it’s quite likely that high among those metrics is how you performed versus your fuel budget.

There’s a good reason why “uncertainty” is a four-letter word in the business world. Volatility makes it difficult to follow through with your business plan despite your best efforts. In an increasingly fast-paced world, it takes faster, smarter, and more efficient processes to stay competitive. Don’t let fuel price volatility be the reason your business performance suffers.

While fixed prices have many benefits, one of the top benefits is allowing you, the buyer, to hit the goals you committed to at the beginning of the year. The simplest way to meet your budget is by locking in a fixed price at the same time you set your annual target, effectively ensuring you achieve your annual goals. Before, we asked how a 50-cent price increase impacts your company’s profits; now, it’s worth considering: how would a 50-cent increase affect you and your department?

This holiday season, give your business the gift of budget certainty. By locking in a fixed price, your business can lock in its profits, simplify its reporting, compete more effectively in the market place, and achieve budget certainty. To learn more about how to effectively execute a fuel price strategy, visit www.mansfield.energy/solutions/price-risk-management/ to learn more. •

After all, you likely have enough other issues to worry about – fuel efficiency, supply allocation, emergency planning, and more; why add fuel prices to the list? 43

Mac Cullens Manager, Risk & Analysis Mac is responsible for designing and executing price risk management strategies for Mansfield’s customers. Mac has been with Mansfield Energy for nine years and has previous experience in Regulatory Compliance, Biofuels, and Government Contracting. He is a graduate of the University of Georgia.

Mansfield National Supply Team Contributors

Mansfield’s supply team brings unique experience and industry expertise to the table. From contract pricing and hedging to trading of fuel, renewables and alternatives such as CNG and LNG, the Mansfield supply team covers the gamut of knowledge required to manage today’s complex national fuel supply chain. Although they work as a national team, each member’s regional focus enables Mansfield to deliver geographic-based supply solutions by more efficiently managing market-specific refining, shipping and terminal/assets.

Andy Milton

Nate Kovacevich

Andy heads the supply group for Mansfield. During his tenure, the company has grown from 1.3 billion gallons to over 3 billion gallons per year. His industry experience spans all aspects of the fuel supply business from truck dispatch, analytics, and index pricing to hedging and bulk purchasing. Andy’s expertise in purchasing via pipeline, vessel, and the coordination via futures and options for hedging purchases enables him to successfully lead a team of experienced and motivated supply personnel at Mansfield. His team handles a wide geographic area of all 50 states and Canada, including all gasoline products, ULSD, kerosene, heating oil, biodiesel, ethanol, and natural gas. •

Before joining the company, Nate worked as a Senior Trader, where his responsibilities included managing refined product and renewable fuels procurement, handling all hedging-related activities, and providing risk management tools and strategies. He performed commodity research and analysis for customers with agricultural- and petroleum-related risk, devised and implemented risk management programs, and executed futures and option orders on all the major exchanges. •

Martin Trotter

Sara Bonario

Martin is responsible for handling natural gas and electricity pricing, deal flow, and analytics for Mansfield’s Power & Gas division. Before his current role, he served as the Sales Analytics Supervisor and held various roles on the Risk & Analysis Team. •

Sara manages the team responsible for procurement and optimization of all refined fuels for Mansfield’s Great Lakes, Central, and Western regions. She is also responsible for nationwide purchasing, hedging, and distribution of renewable fuels. Sara has an extensive supply and trading background, with over 25 years of experience in the oil industry. •

Senior VP of Supply & Distribution

Senior Supply Manager

Pricing & Structuring Analyst

Supply Director

Gabe Aucar

Alan Apthorp

Gabe manages Mansfield’s southeast fuel procurement team with responsibilities for supply contract negotiations as well as providing trading and business development expertise. Gabe holds an MBA from Pace University and has over 12 years’ experience in the energy industry. •

Alan is responsible for content editing, research, and data analysis and visualization at Mansfield, and is an editor for FUELSNews Daily and FUELSNews-360. He is responsible for providing insights to the executive team, including market trends and analysis. Before his appointment to Chief of Staff, Alan worked in data analysis and visualization as a Market Intelligence Analyst. •

Chief of Staff to the President

Senior Supply Manager

Teamwork

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Innovation

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Integrity

Excellence

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Conscientiousness

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Personal Ser vice

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FUELSNews 360° M A RKE T N EW S & IN FORMATION

Mansfield Energy Corp www.mansfield.energy www.fuelsnews.com 678.450.2000 1025 Airport Pkwy SW Gainesville, GA 30501 United States of America

Teamwork • Innovation • Integrity • Excellence • Conscientiousness • Personal Ser vice

FUELSNews 360° Q3 2018

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