Bottom of the barrel? Experts are skeptical that reserve oil will ease retail prices in the long term By Staff Writer John Chartier September 28, 2000: 6:16 a.m. ET

NEW YORK (CNNfn) - Right now, oil companies are bidding for the rights to distribute 30 million barrels of crude from the U.S. Strategic Petroleum Reserve.

President Clinton authorized tapping into the reserves last week as a means of lowering oil prices, which have reached 10-year highs.

But given the fact that refineries are already running at full capacity and the demand for energy is at an all-time high, the question remains: Will the infusion of crude be enough to fill Anna Peters' oil tank without forcing her to cut back on groceries?

In the short term, yes. But further down the line, "you never know. We don't know one day from the next what is going to happen," Peters said.

Peters, a 79-year-old Carlstadt, N.J. resident, lives alone on a fixed income and walks a fine line in her budget. She doesn't know from strategic reserves, OPEC, or any of the other factors that affect her life. All she knows is that she needs oil to stay warm in the winter, and because of that, she pays the price no matter how high.

"It's not easy when you have a house. I have no other assets, so that's what really makes it hard," Peters said. She appreciates the fact that her oil bill will probably be lower this year, but remains cautious about the future.

Clinton's authorization last Friday to tap the nation's oil reserves had an immediate effect on prices. On Wednesday, U.S. Light Sweet Crude for November delivery closed down 4 cents to $31.46 a barrel on the New York Mercantile Exchange. That's down from the 10-year high of $37.80 a barrel set earlier in the month.

Experts remain skeptical

Industry watchers are skeptical though, noting that while pumping up the oil supply will shave $3-to-$5 off home heating oil bills, it will provide little, if any, lasting impact.

That's because the nation's refineries, which must process crude oil to produce all manners of petroleum-based fuel, are already running at 96 percent capacity. Therefore, no matter how much crude is there, production of heating oil and gas cannot proceed any faster, experts said.

Additionally, energy demands are at an all-time high as Americans use more laptops, cellular telephones and other electronic gadgets, and drive big, gas-guzzling sport utility vehicles, helping to keep oil prices high.

That demand has also helped reduce oil stocks, which are at 284.3 million barrels for the week, down 2.239 million barrels from last week and down 20.7 million barrels from the same period a year ago, according to the American Petroleum Institute.

Although the release of reserve oil had a significant impact on prices when Energy Secretary Bill Richardson announced it last Friday, OPEC's agreement to ramp up production by October has also had an effect on prices.

"There's not a shortage of oil, absolutely no shortage of fuel whatsoever," Chris Kelley, a spokesman for the American Petroleum Institute, which represents the nation's oil companies. "It's simply being gobbled up voraciously by consumers. The oil is there, but the demand is there too, and the demand is making for very, very tight inventories and supplies."

Others, such as Geoffrey Heal, agree that releasing oil from the Strategic Petroleum Reserve will have little lasting impact on prices, but the value of Clinton's decision may lie in the psychological boost it gives to Americans, which could in turn, help get prices below $30 a barrel.

"Sometimes a gesture like this can have an impact out of proportion with the actual markets," Heal, an economics professor at New York's Columbia University, said.

Eric DeGesero, executive vice president of the Fuel Merchants Association of New Jersey, which represents 300 retailers, said he also expects little real impact to oil inventories, but appreciates the human factor.

"I've been concerned that inventories are behind where they were last year, but by the same token, it's almost bordering on hysteria," DeGesero said. "The things I've been hearing over the last month, that we're so low on heating oil. It's lower than it should be, yes. But refineries are starting to make the shift over to home heating oil. We're not going to save the world with this SPR draw, but you don't need to save the world. You just have to send the message, 'I am going to do what we need to do, and that is something about the price of energy.'"

From field to furnace

To better understand the impact of releasing 30 million gallons from reserves, it helps to look at the process that brings the oil to the tank in your basement.

The United States is the largest oil producer in the world. Of the 63 million barrels produced worldwide each day, the United States produces 8 million barrels from underground wells on the Gulf Coast in Texas and in Oklahoma. Russia produces about the same amount.

Other major producers are Saudi Arabia, Canada, Mexico and Venezuela. Middle Eastern countries also produce oil, and have banded together to form the Organization of Petroleum Exporting Countries (OPEC).

In 1975, President Gerald Ford established the Strategic Petroleum Reserve in the wake of an OPEC oil embargo. The reserves, which now hold nearly 570 million barrels of crude, are stored in tremendous underground salt caverns along the Gulf of Mexico. Some of the caverns are large enough to fit the World Trade Center buildings in New York.

Most of the home heating oil consumed in the United States, particularly in the Northeast, Mid-Atlantic states, New England and the Midwest, comes from the Gulf of Mexico, Canada, Mexico and Venezuela.

Dozens of underground pipelines cross the United States piping oil to various refineries. A great deal of crude oil is also shipped on barges to major ports such as New York Harbor.

The oil that will heat Anna Peters' house in New Jersey can arrive in two ways. In one case, it can be pumped from wells in Texas and refined in Houston. From there it travels via pipeline to wholesale distributors in New York and New Jersey, who then sell it to local fuel oil retailers. Retailers then sell it to the customer.

The other method involves pumping crude oil through pipelines from the Gulf, up through the Carolinas and to refineries in New Jersey. At the refinery, a typical 42-gallon barrel of oil is heated to extremely high temperatures, causing the oil to physically separate into lighter and heavier layers.

Crude is also shipped by barge or truck to New England refineries since that region has no pipeline network. But that leaves the region vulnerable to shortages caused by bad weather and storms.

Through a complex process known as catalytic cracking, refiners add chemical catalysts to the oil to produce different types of fuel. The lightest crude is "cracked" into molecules of jet fuel and gasoline, which are extremely volatile. Typically, half the barrel is dedicated to vehicle fuel.

Since jet fuel and gasoline is more volatile, it is more expensive to produce, which oil companies recoup in sales at the pump, Heal said.

The rest, thick, heavy oil, almost a sludge, called distillate, is saved for heating oil and other fuel oils. It is much less flammable than gasoline.

Other complex processes are used to convert distillate to heating oil, which is then shipped by truck or barge to wholesale distributors throughout the Northeast. Those distributors, in turn, sell oil to retailers who then ship the oil in tanker trucks to customers such as Peters.

Heating oil retailers are also feeling the pinch from high oil prices. While tight supplies fetch higher prices for oil companies, retailers' hands are tied when it comes to prices otherwise they risk losing customers. Many offer customers a fixed-price program in which a homeowner can lock in a price for oil early in the season before demand soars.

"Obviously we want to hang onto our customers. We don't want to have to deal with price spikes," Dominick Ventura, a partner in Wallington, N.J.-based Ventura's Fuel Oil Co. said. Ventura is Peters' supplier. "Not only is it bad for business as far as us retaining customers, but we're trying to hold our margins on a per-penny-a-gallon basis. When you're paying 80 cents a gallon for oil and 40 cents over cost is our margin, and now customers are paying $1 a gallon, that's not good."

Although skeptical, Ventura remains hopeful that crude prices will drop to near $20 a barrel.

"That may not be a bad thing. That's got to help," Ventura said.

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-- Martin Thompson (mthom1927@aol.com), September 29, 2000