My house was built in 1985. It has the 3 aluminum wires for the range outlet. The previous range was a 2001 model and was directly connected in a box. I wish to install an outlet. I have been told that the bare wire is a neutral. Is this true? If so, can I just use the 3 prong outlet and bond the ground on the range's power cord to the range? Is this okay to do?
Yes, the bare wire is neutral.
I would think twice about installing a receptacle. Most ranges can be installed hard-wired, and I consider that preferable. However, with aluminum wiring you need to check the installation instructions for the range. The instructions may say only copper wiring, in which case you need to use a receptacle. If they allow copper or aluminum then hard-wiring may be a better idea, though you need to make sure that you use appropriate connectors. Note that not all receptacles are rated for aluminum wiring, so you need to check that as well.
But first you need to check if the wires are big enough! The existing breaker is one clue, as it should match the wiring. In addition, see if there is any printing on the cable, as that should tell you the size of the wires. If the wires are big enough then you can use them. If the wires are too small (e.g., 10 AWG for 30A but your new range needs 40A) then you will need to replace the cable with a new, larger cable.
3-wire (hot/hot/neutral) connections are allowed if they already exist but are not allowed for new installations (a straight range replacement is allowed). 4-wire (hot/hot/neutral/ground) connections are much safer. If you replace the cable due to size requirements then you must put in a 4-wire cable (and 4-wire plug/receptacle if you don't hard-wire).
Even if you don't need to replace the cable, you can still make it safer and use a 4-wire connection by running a separate ground wire. It is a little tricky because of the bare neutral, but it can be done. The ground wire does not have to follow the path of the existing cable, it just has to somehow get from point A (your range) to point B (your panel).
That is aluminum SEU cable. "Service Entrance, Unarmored". Since the service entrance (weatherhead through meter pan to main breaker) doesn't have ground, neither does this cable.
This was banned in 1966 (pre-moonshot) for all appliances except ranges and dryers. Dryer/range manufacturers convinced NFPA that it would be OK to "ground" (hah) the chassis of the appliance to the neutral wire, and not have a ground. This causes catastrophe if the neutral wire has a connection problem - electrifying the chassis of the appliance - but manufacturers argued this should be a rare event since dryer and range connections were rarely disturbed. It was banned in 1996 (post-Kurt Cobain) for ranges and dryers because the data proved accidents were not so rare after all.
The insidious thing about it, with ranges, is the range typically still works. Almost every load on a range is 240V only, and will work fine without neutral. It's mainly there for the oven light.* So there will be nothing to warn you that the appliance is faulty/energized.
Installations whose permit was pulled prior to NEC 1996 being adopted were allowed to use this type of cable. However it is banned in new work and improvements.
I wish to install an outlet.
I don't think so. That would be "new work" and would kick you into the new rules.
As manassehkatz says, if it's feasible to retrofit a #10 copper ground from there to a) another junction box with #10 copper ground going back to the panel, b) the panel, or c) the Gronding Electrode (bare copper wires going over to water pipe), then you can install a 4-prong outlet all good and proper. This is due to the retrofit ground rules 250.130(C).
I don't think this would be legal but it would be much safer -- you could install a GFCI breaker and wire a 4-prong receptacle with the ground conected to nothing at all. Label the receptacle "GFCI Protected / No Equipment Ground". Use a 4-prong cable on the range and wire normally for a 4-wire cable (neutral and ground separated). Yes, oven neutral floats, connected to nothing. That helps the GFCI work.
Also, you need to think about ampacity. #10 aluminum wire is only allowed 25 amps. #8 aluminum is 35A. #6 aluminum is 50A. (NEC 240.4(D) and 310.15(B)(16).) If this compels you into a whole cable replacement, you can replace with 4-wire cable as follows:
* Even dumber is the reason for 120V oven lights. Oven lights must be incandescent (for the heat). So back in the day, any common 20 cent light bulb would suffice, why make people buy special 240V oven bulbs? (clearly HP and Epson wasn't selling ovens back then). Today, the benefit is lost, as CFL/LEDs will burn up in an oven, so you have to buy a special oven bulb after all.
You got an excellent answer from Harper, but I'd like to add an important note: you can't connect aluminum wiring to copper wiring by simply twisting them together or using a wire nut! If you don't use specially-rated connectors, the differing expansion rates of copper and aluminum can work the connection apart and cause arcs. Worse yet, the two metals interact chemically, causing corrosion and oxidation. Either of these situations could cause a fire.
