If you have been following the news, there is no way you could have missed the headline “Oil Passes $100!”. With all of the tensions erupting in the Middle East, the BP oil spill, and everything else, oil prices have been on the rise for several months now. It is important to note that although oil is trading around $100, its all time high was about $147, which was achieved in July 2008.
Oil has been a source of speculation and investment for several years, with the bulk being done by traders. However, over the last 3 years, several different investment vehicles have emerged that have allowed individual investors to invest in oil. For example, there are now several Exchange-Traded Funds (ETFs) and Exchange-Traded Notes (ETNs), that allow individuals to invest directly in the product.
Direct Investment Options
The most direct way to invest in oil is through the purchase of oil futures. A futures contract is an offer to purchase a set amount of oil for a set price at a future date. For example, an investor thinks that oil will go to $150, so he purchases a contract for March for $150. If oil rises above $150, his contact becomes much more valuable, and if it stays below, it becomes less valuable (why would you pay more for the oil). Investing directly in the futures market is very risky because, unlike stocks and bonds, you have to settle up for the value gained or lost daily. This requires margin, and you may have to cover large losses immediately.
A more traditional approach for individuals is investing through an ETF or ETN. The most common oil ETN is OIL, which invests in oil future contracts. Since these products invest directly in the futures market, their movement correlates very closely to the movement of oil.
Indirect Investment Options
An indirect investment option involves the purchasing of stocks in the oil sector. This could include a wide-variety of drillers, refiners, tankers, service companies, etc. The most common stocks for investors to invest in are ExxonMobil, Chevron, BP, and many more. These companies are the ones who own the wells and produce the oil. Most of these companies also operate world-wide, so you get a global exposure.
You can also invest in this entire sector through an Oil ETF or Mutual Fund. For example, there is the Energy Sector Select SPDR (XLE) or the Vanguard Energy ETF (VDE).
Seasonality and Other Information
It is important to note that it may be important to really watch the price before you invest. In March, oil prices tend to slump before the summer, so even with the volatility, there could be a drop in the near future.
Finally, investing in oil directly should be viewed as purely price speculation. Oil pays no dividends, and holds no other value beyond its use as a fuel or industrial component.
What are your thoughts? Are you currently invested in oil or thinking about it?
Note: The College Investor currently holds positions in XOM and CVX.