Trading in oil by Darren Winters
With oil remaining in the $50 area it is not surprising that we have had a number of readers asking us how they can benefit from this. Another key question has been surrounding whether you can trade oil companies on the basis of the price of oil, much in the way we do with gold companies.
We should put out a public wealth warning here, in that whilst oil prices may go up buy quite a lot more, they are currently running at close to all time high prices thus we could have a proper retracement. Remember the dot-com boom drove investors into what was already an overpriced market, just so that they could be in the action. As I alluded to in the opening article, the price of oil may be high because it suits some economies for it to be so.
If you prefer to follow fundamental information or use it in addition to technical analysis you may find good quality data is hard to come by. The biggest problem that even the market analysts have, is finding good quality, accurate, timely information. I guess the other side to this, is that you are not at much of a disadvantage as a private investor.
As most suppliers are very secretive about how much they are actually producing due to their different quotas, particularly in OPEC, it is difficult to even guess what the total output is. As for purchasing this is equally as difficult, as countries such as China do not necessarily want the World to know how dependent they are on others.
What it has come to, is that investors tend to look at the weekly releases from the US oil reserves released by the Department of Energy, which are available at 15.30 (10.30 US Eastern Time) on a Wednesday (Thursdays on a bank holiday week). As the United States now use somewhere in the region of 25% of the worlds oil production, their stocks are key to whether they need to increase or decrease their purchases. This is probably one of the biggest movers of the oil price on a regular basis. If you look at a chart of the cash price of oil you will see that for months now, Wednesdays are traditionally the most volatile on the market, followed by Thursdays as traders continue to digest the news.
INVESTMENT OPPORTUNITIES
There are numerous ways in which you can invest in oil, here we look at a few of them.
If you’re a qualified investor you can actually buy into an exploration project. Having been to several investment conferences in the US, I have been offered numerous opportunities for a share in a new drill. Whilst these are given tax breaks for US citizens, they are just extremely risky as whilst each company is trying to convince you that they will find oil, there are absolutely no guarantees for the well being viable, if it is not dry. Be prepared to lose all of your investment.
Dealing in futures contracts is probably the most common and most direct method of trading oil by institutions and more sophisticated investors. Due to the risk involved and relatively large sums of money needed it is not for everybody. We have covered the topic of futures in detail in other articles so will not go into detail here.
As an alternative to trading futures, you can trade options on the futures. Whilst this requires less money, the risk is equally high if your buying options and potentially unlimited if your selling them. Of course there are some great profits to be made if you know what your doing. Again this is a whole topic on its own.
A safer alternative may be seen as investing into Oil Companies themselves. However, we are quite cautious here, as you must take into consideration a whole raft of factors when deciding which one to invest in. You may of heard of a company called White Nile, it was set up by an ex England cricketer. Frankly this company sums up all that is bad in small exploration companies and investor madness. It has one field that is unproven yet people have been putting money into the stock as if it was a done deal. The big companies are not clear of controversy either, Shell managed to grab the headlines for far too long due to the overstated reserves.
We are cautious with trading oil companies purely on fundamental information. Even with oil at $50 plus per barrel, this does not mean all companies will get that amount for what they are pumping. You need to take into account the quality of the oil and location of the reserves. Of course they will still get more as even lower grade crude will rise in line. In the longer term you should also note that with oil at a higher price, more projects become viable increasing the amount of oil available. As more wells are drilled this brings more oil to the market thus reducing the price.
It is not always the oil companies themselves that are the best investment. Some of the supply companies and refineries we have featured in the past have seen some awesome increases in their share price. Tesoro Petroleum (Refiner) was featured around 12 months ago, it is now up 87%.
Looking forward it is important that you take into account what price the company is using to forecast future earnings. If is only around $30 a barrel, there could be some good earning surprises (for the small investor) leading to an increase in share price.
There will undoubtedly be a correlation between the price of oil and stocks although we would remind you that this can mean the stock may fall as
well as rise.
Regards Darren Winters
We should put out a public wealth warning here, in that whilst oil prices may go up buy quite a lot more, they are currently running at close to all time high prices thus we could have a proper retracement. Remember the dot-com boom drove investors into what was already an overpriced market, just so that they could be in the action. As I alluded to in the opening article, the price of oil may be high because it suits some economies for it to be so.
If you prefer to follow fundamental information or use it in addition to technical analysis you may find good quality data is hard to come by. The biggest problem that even the market analysts have, is finding good quality, accurate, timely information. I guess the other side to this, is that you are not at much of a disadvantage as a private investor.
As most suppliers are very secretive about how much they are actually producing due to their different quotas, particularly in OPEC, it is difficult to even guess what the total output is. As for purchasing this is equally as difficult, as countries such as China do not necessarily want the World to know how dependent they are on others.
What it has come to, is that investors tend to look at the weekly releases from the US oil reserves released by the Department of Energy, which are available at 15.30 (10.30 US Eastern Time) on a Wednesday (Thursdays on a bank holiday week). As the United States now use somewhere in the region of 25% of the worlds oil production, their stocks are key to whether they need to increase or decrease their purchases. This is probably one of the biggest movers of the oil price on a regular basis. If you look at a chart of the cash price of oil you will see that for months now, Wednesdays are traditionally the most volatile on the market, followed by Thursdays as traders continue to digest the news.
INVESTMENT OPPORTUNITIES
There are numerous ways in which you can invest in oil, here we look at a few of them.
If you’re a qualified investor you can actually buy into an exploration project. Having been to several investment conferences in the US, I have been offered numerous opportunities for a share in a new drill. Whilst these are given tax breaks for US citizens, they are just extremely risky as whilst each company is trying to convince you that they will find oil, there are absolutely no guarantees for the well being viable, if it is not dry. Be prepared to lose all of your investment.
Dealing in futures contracts is probably the most common and most direct method of trading oil by institutions and more sophisticated investors. Due to the risk involved and relatively large sums of money needed it is not for everybody. We have covered the topic of futures in detail in other articles so will not go into detail here.
As an alternative to trading futures, you can trade options on the futures. Whilst this requires less money, the risk is equally high if your buying options and potentially unlimited if your selling them. Of course there are some great profits to be made if you know what your doing. Again this is a whole topic on its own.
A safer alternative may be seen as investing into Oil Companies themselves. However, we are quite cautious here, as you must take into consideration a whole raft of factors when deciding which one to invest in. You may of heard of a company called White Nile, it was set up by an ex England cricketer. Frankly this company sums up all that is bad in small exploration companies and investor madness. It has one field that is unproven yet people have been putting money into the stock as if it was a done deal. The big companies are not clear of controversy either, Shell managed to grab the headlines for far too long due to the overstated reserves.
We are cautious with trading oil companies purely on fundamental information. Even with oil at $50 plus per barrel, this does not mean all companies will get that amount for what they are pumping. You need to take into account the quality of the oil and location of the reserves. Of course they will still get more as even lower grade crude will rise in line. In the longer term you should also note that with oil at a higher price, more projects become viable increasing the amount of oil available. As more wells are drilled this brings more oil to the market thus reducing the price.
It is not always the oil companies themselves that are the best investment. Some of the supply companies and refineries we have featured in the past have seen some awesome increases in their share price. Tesoro Petroleum (Refiner) was featured around 12 months ago, it is now up 87%.
Looking forward it is important that you take into account what price the company is using to forecast future earnings. If is only around $30 a barrel, there could be some good earning surprises (for the small investor) leading to an increase in share price.
There will undoubtedly be a correlation between the price of oil and stocks although we would remind you that this can mean the stock may fall as
well as rise.
Regards Darren Winters
posted by Darren Winters at 2:47 PM
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