Although strategic oil reserves are in relative plain sight, they would be high on the list of least known national security measures in the United States. The Strategic Oil Reserve holds 727 million barrels of oil. To put that in to perspective, the United States uses around 21 million barrels of oil per day. Sitting along the gulf coast, the United States holds enough oil to meet its daily needs for more than a month! (Changes in the price of oil aren't arbitrary. Read on to find out what moves them and why. Check out What Determines Oil Prices?)
TUTORIAL: Discounted Cash Flow Analysis (DCF)
On June 23, President Obama ordered 60 million barrels put on the market. There are many theories as to why the oil was released but the official answer was to curtail supply disruptions as a result of the Libyan conflict. Some think it was a political move to bring the price of oil down in order to boost the President's popularity, while others think it was an attempt to get the oil speculation market under control.
The timing seems odd, some insiders argue. First, there were many other times in recent history when oil was at a level where the reserves could have helped to bring the price of oil down, so why now? On a CNN interview, one oil trader said that releasing oil in to a market that is on a clear path upwards will do little good in bringing down the price of oil. Tapping the reserves when oil is on the way down does more good, both to the consumer and to the political clout of the president.
It has now been more than a week since the announcement that 60 million barrels of oil will soon flood the market, but has the consumer seen any relief? When the announcement was made, oil prices fell 4%. However, as of June 30 - one week after the announcement - the price of oil was at $94.27. This is $5 higher than the previous week. So what we've seen in one week is that very little has changed in the price of oil and, in fact, it appears to be heading north again.
Figuring out why oil prices are at any given level is a lot like a who-done-it murder mystery. There are so many variables and clues that the mystery may never be solved. That doesn't stop the economists and analysts from venturing theories. First, it may be the dollar. Oil is priced in dollars so when the value of the dollar falls in relation to other world currencies, investors buy oil contracts. This means that not only does the mystery have to be solved by looking at the supply and demand conditions around oil, but also the world events that may have big changes in the value of the dollar. The Greek financial crisis was center stage this week, and it made world currencies rise and fall rapidly.
Next, although 60 million barrels of oil is a lot of physical oil, it's a tiny amount in the commodities markets where investors trade oil contracts all day. Tim Evans, a futures analyst with Citigroup says, "The futures and options markets trade that in an hour." Although the price of oil was affected in the short term, the release of this oil appeared to have no long term effect on the oil speculators.
Finally, on June 29, a report came out saying that U.S. oil inventories showed a 4.4 million barrel decline, making oil prices rise 2% on the news. According to Evans, news like this is more important to the oil market than the 60 million barrels coming from the oil reserves.
The Real World
According to Greg Priddy, a global energy analyst, if the oil reserves weren't tapped, the price of oil may be $4 to $5 higher than that $94.27. So the release of the reserves wasn't a wasted endeavor. Because consumers have seen falling gasoline prices as of late, a move like this may bring with it some popularity for the Obama Administration.
According to the Department of Energy Website, from the time a Presidential order is made to release the oil from the reserves, it takes 13 days to begin the process. Then, not all of it is released at once. Instead, it is released to the market in smaller amounts.
Finally, the oil reserves must stay at 726.5 million barrels. So in the not so distant future, the Federal Government will have to buy back the oil - possibly at a higher price than they paid for it originally. There are a variety of ways they can do this. One way is to receive physical oil instead of land lease payments from oil companies. (Find out how to take advantage of this market without having to open a futures account. See A Guide To Investing In Oil Markets.)
The Bottom Line
As a consumer, you will probably see very little long-term effect from the release of these 60 million barrels of oil. The Strategic Oil Reserve was created as a result of the severe supply disruptions that took place in early 1970s during the oil embargo. It was then that the U.S. decided that this was a national security matter. This reserve of oil protects U.S. citizens from a catastrophic economic event, should something happen to our oil supply. Take comfort in the fact that we're protected for at least 30 days.