Oil refiners from Valero to Sunoco are cutting the most capacity since the early 1980s, anticipating that the coldest U.S. winter in a decade won't be enough to soak up a glut of fuel.

The returns from processing crude into heating oil for delivery in February are the lowest in six years after the recession cut demand by the greatest amount since Jimmy Carter was the president. The margins for making heating oil and diesel may decline 35 percent by January because of the increasing supply, according to Energy Security Analysis Inc. of Wakefield, Mass.

Valero Energy Corp. of San Antonio shut its Aruba plant and Sunoco Inc. of Philadelphia will idle its Eagle Point refinery in New Jersey.

The Energy Department forecasts that heating costs will fall 8 percent this winter across the country, even as the Northeast, where most heating oil is used, faces prospects for frigid weather, according to Commodity Weather Group, a private forecaster in Bethesda, Md.

Andy Lipow, the president of Lipow Oil Associates LLC, a Houston consulting firm, said "Some refiners are not going to survive" unless profit margins recover.

The most vulnerable "are inefficient refineries with high operating costs, high fuel costs. The East Coast refineries probably carry the biggest risk because they compete with the rest of the world," he said.

Andrew Reed, an analyst for Energy Security Analysis, said February futures contracts show the premium of heating oil to crude oil, called the "crack spread" in industry jargon, will average $5 to $5.50 a barrel in January, from $8.10 on Monday. That's down 73 percent from $19.60 a barrel last year, the biggest one-year drop in more than two decades.

Shares of Valero, the largest U.S. refiner, have fallen 11 percent this year, and Sunoco, the largest refiner in the northeastern U.S., has dropped 31 percent. Analysts forecast that of the nine publicly traded independent refiners, Valero, Sunoco, Tesoro Corp., Frontier Oil Corp., Western Refining Inc. and Alon USA Energy Inc. will lose money in the third quarter, data compiled by Bloomberg show.

The Energy Department said only a colder-than-expected winter can help the refiners.

The forecast for cold weather and signs of economic recovery caused Francisco Blanch, the head of global commodities research at Bank of America-Merrill Lynch in London, to estimate that refining margins may rise.

"I will be very surprised if we don't see $10-a-barrel-plus in January and February, particularly in light of what appears to be a recovery in manufacturing activity and industrial production," he said. SUBHEAD: The shutdowns come despite fore-casts of a fiercely cold winter.

Originally published by BARBARA POWELL Bloomberg News.

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