Originally sent to VIXCONTANGO subscribers on September 16th, 2019
Since Trump is going to start bombarding us with tweets about the SPR, I need to give you a backgrounder. The US had discussed a strategic stockpile of oil since World War 2. After the Oil Crisis in 1973-1974, President Ford finally signed the Energy Policy and Conservation Act (EPCA) at the end of 1975 establishing the SPR with a reserve of up to 1 BILLION barrels of petroleum. From 1993 to 2000, the Department of Energy (DOE) priority was to make sure the reserve infrastructure was created. In 2001, President Bush ordered the SPR to be filled to 700 million barrels. The filling continued until December of 2009. Not only was Bush drilling for more oil, he was taking oil off the market to fill the SPR which contributed to the big oil spikes at the end of his Presidency. In 2005, Congress directed the SPR to fill up to 1 billion barrels but environmentalists blocked this effort once the Democrats came to power in House in 2006. The effort to expand the SPR to 1 billion barrels was abandoned in 2011. Still, the SPR is the largest stockpile of emergency oil in the world with 688 million barrels of oil.
Enter Trump. In May of 2017, President Trump revealed his intentions to cut the SPR in half as part of his 2018 budget. Trump wants sales from the SPR to reduce the budget deficit by about $16 billion over a decade. This was a very controversial move as both Democrats and Republicans don’t want the US to be left vulnerable to oil shocks even with the burgeoning shale production. Shale production is slow to come online and the SPR provides the ability to cushion price shocks until production is revved up a few months later. The SPR’s near 700 billion barrels of oil are equal to about 150 days of net imports of crude (probably a lot more now) or roughly 5 months. This is a nice big cushion and enough to see the US through until shale production revs up. Trump proposed selling 270 million barrels of oil by 2027, a move that would allow the US government to retire 2 out of the 4 Gulf Coast facilities that store the oil. Trump’s proposal is actually the measured one. GOP think tank The Heritage Foundation wants the entire SPR sold off in 2 year period – yes, those guys over there are totally nuts.
In any case, the SPR is being drawn down slowly as we speak. In the Bipartisan Budget Act of 2015 (GOP House, Obama as President), Section 404 authorized the DOE to sell 58 million barrels or 8% of the reserve from 2018 through 2025 to raise $5.1 billion. In addition, Congress turned to sales of the reserve to meet financing needs of the Highway Trust Fund which drain another 101 million barrels form the reserve (Section 403). So all together Congress is draining 160 billion barrels as it stands from 2018 to 2025 or about 20 million barrels per year. The Trump administration plans to shrink the SPR comes by 270 million barrels comes on top of these 160 million barrels that are already being put on the market by the Congress. At the end, SPR will only have 250 million barrels left or roughly 40% of current levels.
Over an 8 year period, selling the total of 465 million barrels of oil amounts to about 60 million barrels per year or about 165,000 barrels per day which is nothing compared to global consumption of about 100 million barrels per day. But if the selling is done strategically, it can definitely impact oil prices on certain days and months.
This year in 2019, the DOE sold oil from the SPR in 2 tranches:
- February 2019, 6 million barrels delivered in April and May.
- August 2019, 10 million barrels delivered in October and November.
DOE probably has another 4 million tranche (from the Congressional appropriations) to announce from here to end of the year.
Then we will have Trump and Secretary Kerry jumping in with more emergency sales because of the Saudi Arabia situation. Kerry already announced that on the DOE website.
Now it should be clear why oil prices were in such dire straits this year. Long story short, I want to make you aware that the GOP/Trump want to shrink the SPR dramatically as part of their ideology for less government intervention in markets. The GOP has been trying to do this unsuccessfully for the past decade and now it seems that they will use the pretext of the tensions with Iran to drain the SPR down to the 250 billion barrels target as they have been planning all along. And if the oil price stays down and helps the Trump reelection and keeps the small GOP crew in power for 4 more years, well – that is just icing on the cake!
Ultimately, despite their SPR drawdowns, I don’t think Trump and DOE will ultimately dent energy prices from their long term upward trend. If Saudis drop their production 4 million barrels per day, the SPR can replace that production for only for 3-4 months. The maximum emergency drawdown capability of the SPR is 4.4 million barrels a day and it takes 13 days for SPR oil to reach the market after a presidential decision. Traders will get ahead of the planned end of the SPR drawdown in the future and push prices higher. In the meantime, expect a lot of oil price volatility as this is another front where traders will be battling Trump. Would you be surprised if the oil chart looks like the SPX – upward trending with sharp downward spikes? I wouldn’t it. Signature Trump market manipulations. Today, Trump’s fingerprints are all over oil prices already. CL (WTI crude oil) opened at $63 and is already down to $59 a few hours later.