Should the Federal Government Use the Spr to Counter Speculators?

Michael Giberson

At Rigzone:

Governments should consider their strategic petroleum reserves a part of their arsenal to limit speculation in the oil market, according to a report issued Thursday by Rice University’s James A. Baker Institute for Public Policy.

If the policy is to sell SPR oil into the market when prices get “too high” (at $90 a barrel? at $100? How do we know?), how does the policy avoid draining the strategic reserve when rising international tensions suggest that the strategic reserve is actually needed for, you know, strategic reasons?

The addition of (another) big, politicized player in the oil market seems unlikely to reduce volatility.  Maybe the authors address these issues in the report, which I was unable to find in my first attempt after reading the Rigzone story.

UPDATE: The report is Ken Medlock and Amy Myers Jaffe, “Who Is In the Oil Futures Market and How Has It Changed?

The SPR section is just two pages at the end of the document. Here is a sample:

Several years after 1990, the Clinton administration also used the “test sale” tool to cap oil prices at $40 a barrel, by signaling to oil markets and OPEC that it would use such sales from the U.S. strategic petroleum reserve to calm oil markets and discourage speculative activity during a sudden disruption or severe imbalance of markets. The strategy proved similarly successful, discouraging future markets players from holding long positions above the $39 a barrel level for fear that U.S. government intervention in the market could cause them losses.

What if we had started selling the oil at, say, $50 or $60 a barrel in 2005, and prices continued to rise? Is the response to sell faster? How low do we let the SPR go before the strategic value of the reserve becomes compromised (i.e., how much more oil is in the SPR than is necessary for strategic reasons)?

It still seems that when there is a demand-driven price rise, which the 2005-2008 was in large part (whatever additional role might have been played by speculators), the policy sells off part of the reserve to help keep prices down, and the effect is to employ the SPR to subsidize the growing demand.

Not that trying to buy low and sell high isn’t a good financial strategy, but the federal government just isn’t set up well to arbitrage the market.

(Hat tip to FT Energy Source)

ANOTHER UPDATE: I just read the last two pages. Craig Pirrong read the whole thing and was less than impressed (i.e., “In a nutshell, this report is bilge.”).

3 thoughts on “Should the Federal Government Use the Spr to Counter Speculators?

  1. Speculating from a long position is still speculating. To counter the effect of market speculation using government speculation would require counter-market speculation. Not that market speculation is always “smart” speculation, but it seems too easy for counter-market speculation to be “dumb” speculation.

  2. This is as opposed to using the SPR to fight a market in backwardation — right? That is, selling oil from the SPR in the spot and buying replacement oil in the futures market and pocking the difference. That doesn’t have any of these risks. If it continues to get even more backward then you can make even more money.

    All you need to do is specify physical delivery and fully collateralized positions in government debt are requirements for anyone wanting to enter into such a trade. In those rare times when current supply is highly limited but there is no threat to medium to long term production, this could be a big money maker.

    Back in 2007 when I wrote about this on my blog (A wealth of oil) this strategy was worth about $15 million a day.

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