Who Knew What and When

Jim Brown
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An interesting revelation appeared in the news today that changes how I view the announcement of the IEA/USA strategic reserves announcement. I had previously criticized the current administration for the reasoning and timing of the announcement. It turns out there was an even bigger reason for criticism.

President Obama and the IEA announced on June 23rd they were releasing 60 million barrels of oil and refined products from the strategic reserves of the 28 IEA countries. The USA would release 30 million of the 60 million barrels. I criticized the administration for making the announcement in late June when WTI oil prices had already declined from $115 to $95. What was the urgency to release oil to reduce prices when prices had already fallen $20?

We are finding out this week that the president first began discussing the plan on May 2nd when prices were $115. After a couple of meetings on the subject at the highest levels, which included Treasury Secretary Timothy Geitner, Deputy Energy Secretary Daniel Poneman and National Security Adviser Micheal Foreman, they proceeded to put the plan in motion on May 5th.

The reasoning for the plan was the drag on the global economy due to high fuel prices at a time when the economy appeared to be faltering. The loss of the Libyan production had put the global supply of light sweet crude into a negative trend where supplies were declining rather than remaining flat. Shipments of crude were being redirected to new destinations as the global refining system worked around the shortages by shifting products where they could best be used.

There would not be a disaster as summer demand increased but prices would rise until fall. For the president who had been unsuccessful in getting OPEC to increase production this appeared to be ample reason for a record setting release of strategic supplies.

I can actually agree with the sentiment up to this point. The plan was put in motion at the highs of the summer just as increased summer demand was kicking into gear.

Unfortunately the plan began to fall apart almost as soon as it was formally launched. After consulting with the IEA, which had also been trying unsuccessfully to get OPEC to increase production, the plan was firmed up and put into operation. However, this is now mid May and the OPEC meeting on production quotas is just ahead on June 8th.

The president sent his "trusted advisers" to Saudi Arabia and Kuwait to alert them of the coming inventory release and get their input on the matter. President Obama personally called Saudi King Abdullah and Kuwaiti Emir Sheikh Sabah al-Ahmad al-Sabah to discuss the situation before sending his team of advisers to break the news.

While this is happening the prices are declining sharply. The president is losing his political opportunity to do something unusual to bring prices down. As the situation unravels the plan is put on hold ahead of the June 8th OPEC meeting for fear of the announcement being confrontational to OPEC. A last ditch effort is made to lobby for higher production quotas at the OPEC meeting to no avail.

OPEC meets and despite intensive efforts by Saudi Arabia to upgrade the production quotas the meeting becomes polarized and the 12 nations are evenly split over new quota levels. The meeting adjourns without an official quota. The Saudi oil minister said it was the worst meeting in his 17 years in OPEC. There was no agreement on anything and factions were openly hostile on the topic of changing the production quotas. At the time the press associated it with Iran holding the rotating presidency of the OPEC for 2011 and holding the cartel hostage because of their desire to inflict pain on the U.S. and Europe for the nuclear sanctions.

Now, three weeks after the meeting we are seeing another picture emerge. The U.S. administration told OPEC members two weeks before the meeting they were going to release 60 million barrels of oil in an effort to force prices down. Why in the world would any OPEC country vote to increase production knowing it would depress prices when they knew the USA/IEA were about to drop a price bomb on the market? I am surprised OPEC didn't cut the existing quotas to offset the coming IEA release.

When you have a strategic plan to sharply influence the global economy by altering the balance of supply of a strategic commodity you don't reveal those plans to the cartel that controls the production of that commodity. That is like telling the enemy you are going to bomb a certain position at 6:12 AM day after tomorrow. They will be ready and waiting for you and they will do their best to make sure your plan is ineffective.

I can see how the plan was devised and I can rationalize the justification behind it at $115. However, I can't understand why the details of the plan were dispersed ahead of time. Obviously we know from events of the past two years president Obama has gone out of his way to apologize to Arab countries for U.S. actions in the past and has tried his best to make friends with those same countries even though many of them would nuke us tomorrow if they could. Maybe this was another one of those conversations where the U.S. apologized in advance for its actions in hopes we could get some support. I don't know the answer. I do know that telling OPEC countries ahead of the meeting pretty much assured there would not be any favorable quota change at the meeting.

With prices falling to $100 after the meeting the president had lost his major motivation for the release. The opportunity had come and gone. The press releases were ready to go but oil prices just kept falling. At $93 on June 20th there was no longer any justification but the opportunity to appear presidential was too good to pass up. They waited until after the FOMC meeting and the Bernanke press conference on June 22nd and then made the announcement the following morning. The rest as the say is history.

WTI prices fell back to $90 for three days before beginning their rally. The fundamentals did not change. The amount of oil and refined products was only 16 hours of global demand. Nothing really changed. Demand continues to rise faster than supply and that is the bottom line to the story.

Politicians do strange things in election cycles. When they are afraid to make a decision because they might upset an Arab country it will always be a bad decision. Those countries make decisions every day that are detrimental to the USA without any regard for our national feelings but we still send them billions in oil dollars every month. There is no penalty for actions and the USA and Europe are fair game for OPEC as they hold their regular strategy sessions. In the end they will always control our energy destiny as long as they control their current 79.6% of the remaining reserves of world oil.

Dr Stephen Leeb a noted author, economist and market commentator said, "This IEA release represents one of the scariest, most mindless, most desperate and worst decisions I have seen in more than 30 years of watching markets and economies." If we call this release RE1 for Resource Easing 1 then we can bet there will be a RE2, RE3 and RE4 because the fundamentals have not changed. Prices are going higher.

I personally believe there won't be another release because once the first one is proved ineffective a second release is not worth the political risk. The administration caught so much flack over the reasons, method and timing of this release they are not likely to try it again unless the situation becomes really desperate.

Jim Brown

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