Gulf Pipeline Disaster Revealed; SPR Tap Possible

Today's Analysis: Oil Supply: So Muddy And Deep

Some traders are handicapping the possibility of the U.S. tapping the Strategic Oil Supply. With one week to go before the election, and with long-term problems now being fully catalogued, the scenario becomes possible.

The United State's supply of oil is in tatters due to underwater mudslides caused by Hurricane Ivan. The potential for continued delays in pipeline deliveries might be measured only by the ability of the oil industry to find and repair the damage.

According to the Wall Street Journal "Hurricane Ivan had triggered a multitude of mudslides that crippled production in a sizable chunk of the gulf, a region that satisfies about one-quarter of the U.S. thirst for oil. Now the industry faces a titanic task: finding and repairing pipelines that have been broken, buried and slung about like pick-up sticks across the sea floor. Until they are fixed, billion-dollar floating platforms will be idled and unable to get oil to land. It could be "six months" before Gulf production can be back online.

The situation is "one of the worst disruptions ever in U.S. energy production. It has knocked a total of more than 25.1 million barrels of oil off world markets -- and continues to hold back more than 400,000 barrels a day. That is 25% of the gulf's normal daily production of 1.7 million barrels a day."

The Journal cites experts as describing Ivan as the major reason for the $12 jump in crude after the storm, and notes "a sustained rise of $10 a barrel of crude can erase half a percentage point from the growth rate in U.S. gross domestic product, according to Dallas Federal Reserve Bank research."

The damage was extensive with the 120 mile per hour winds creating waves that were as high as 53 feet. The net effect was at the very least a delay in returning rigs to operation. According to the Journal article some mobile rigs were blown off of their normal locations by as much as 70 miles, by the storm.

Most interesting, and indicative of the current difficulties still facing the oil industry in the Gulf are these two facts from the Journal article: 1) "A small armada of 100-foot to 200-foot research vessels has been deployed in the gulf to search for pipelines pushed far off their original track in pitch-black waters swirling with sediment. What the crews are finding has surprised even industry veterans of past hurricanes. A second 18-inch BP pipeline was shoved more than a half-mile to the south -- stopping only when it slammed against the legs of an offshore platform. Other pipelines were buried beneath 40 feet of mud."

2) The difficulty in finding the pipelines stems partly from an industry innovation that has prevented any significant oil spills. Since the early 1970s, many new pipelines have included what are known as breakaway valves. When there is too much pressure, the pipeline breaks at a predetermined point, and a valve shuts to prevent spills. This controlled rupture makes it easier to fix. But the movement of the broken pipe has been so great that the ends are hard to find."

How did all this happen? Call it a consequence of progress. The oil industry has been building underwater pipelines in the Gulf since the 1950. Most of them are directed to the Mississippi Delta. In fact, according to the Journal "So many pipelines feed into the delta ["it's like spaghetti out there,"] (quoting) Chris Oynes, Gulf of Mexico regional director for the federal Minerals Management Service, which regulates offshore energy activities."

The net effect is as follows. "As the Mississippi River flows into the gulf, the current carries huge amounts of clay and silt that settle onto the seabed. This creates enormous ledges of sediment with the consistency of mayonnaise. From the shoreline, the sea bottom falls away gradually for several miles before dropping off sharply. Large waves from Hurricane Ivan acted as a suction pump, pulling and pushing the muddy ledges until they gave way and surged downhill -- possibly as fast as 50 miles an hour."


The oil markets are still factoring in what happened with hurricane Ivan. The Wall Street Journal has just exposed and detailed a significant set of developments.

Market insiders have had this information for several weeks and have bid the price of oil up accordingly. That means that it's not likely to move prices higher, unless the repair effort becomes worse than described in the article.

What is likely though, is that weather, and refinery capacity, especially with regards to heating oil, will still be the driving force on prices.

Oil Markets: It's Supply Time Again

Oil prices are almost certain to move at mid morning, as the API and U.S. Department of Energy supply figures are released. Heating oil will get the headlines.

But, as the story above illustrates, there are some longer-term problems to deal with. According to CBS Marketwatch: "Speculation that the Energy Department is mulling an emergency release from the nation's small heating-oil reserve added to the price pressure. The reserve has about 2 million barrels of heating oil, according to Williams."

Utility stocks added to their recent break out. See our Top Ten Energy list for full details and stock picks.

For now though, as we've noted in the last several days, until proven otherwise, the oil market remains in a long term bull market. Only if prices fall significantly below $40 per barrel will this scenario change.

From a technical standpoint, if the oil stocks continue to fall as crude rises, we'll once again be in divergence land. And that could well mean that crude oil may be forming a top. Although it's dangerous to forecast tops in the middle of major bull moves, it's ludicrous to think that oil can rise forever, at least not without a major retracement.

The Philadelphia Oil Service Index (OSX) moved back above 120, a key short term development. For more details on trading the energy sector visit our energy timing page, featuring our highly effective OIH timing model and our Top Ten Energy Stock List.

The Amex Oil Index (XOI) moved back above 700. This is a good short term development for the bulls. For immediate analysis, including stock picks, and the latest in technical analysis of the entire energy complex, our subscriber section has a full complement of recommendations in oil service and the rest of the energy complex.

In the Rigzone Store:

Successful Energy Sector Investing: Every Investor's Complete Guide

Dr. Duarte's book predicted many of the current developments in the economy and the energy markets, and provides an excellent set of benchmarks and trading lessons for what could be in store for the future.