In a stock market that appears choppy, oil stocks are surging. As of June 28, 2022, Exxon Mobil's (XOM) share price is among the highest it’s been in five years. Other oil companies are also doing well and raked in $100 billion in the first quarter of 2022.
So, how do you take advantage of these opportunities? Let’s take a look at how to invest in oil and whether this type of investment makes sense for you.
How to invest in oil
When many people think of investing in oil, they think of private oil and gas offerings that specialize in investments in the oil industry. These include master limited partnerships (MLPs) which are publicly traded partnerships focused on slow and steady investments.
However, you typically need a lot of capital for private oil and gas investments. You may also be required to keep your money in the project for a long time before seeing returns. Locking that money up can be difficult, especially if you think you’ll need it in the near future.
As a result, it might make more sense to turn toward one of the following public offerings if you’re just getting started in oil investing.
3 ways to invest in oil
If you want to learn how to invest money in oil, there are some easier ways to go about it — including those that are more accessible to “regular” investors. Here are some common types of oil investments.
One of the easiest ways to gain exposure to the oil market is to invest in a commodity exchange-traded fund (ETF). Commodities are natural resources or agricultural products such as oil, gold, industrial metals, grain, and cotton.
An ETF offers you the ability to gain exposure to a variety of companies and investments in one product. ETF shares trade like stocks, so they are relatively easy to buy. Just go to your broker or investment app, look for the ticker symbol, and buy your oil stock.
There are some ETFs that offer exposure to a variety of commodities, including oil. For example, the Invesco DB Commodity Index Tracking Fund (DBC) includes oil and also tracks natural gas, copper, gold, soybeans, and other commodities.
It’s also possible to directly invest in oil ETFs that act as commodity pools. These use investor contributions to trade in the futures and commodity markets. For example, the United States Oil Fund LP (USO) invests in a variety of oil contracts and provides easy access to oil investments.
Another possibility is to trade oil futures. A futures contract focuses on buying or selling an asset for a set price at a specific date in the future. Learning how to trade futures can be challenging, so it’s important to get a feel for the market before moving forward with this strategy.
In order to trade futures, you will need to set up a special account with a brokerage that offers futures contracts. Additionally, you might need extra money to trade futures since some of these accounts require account and trade minimums.
Oil stocks are one of the simplest ways to make a direct investment in oil. Many publicly traded companies benefit from oil sales, including oil and gas companies like Chevron (CVX) and Shell (SHEL). However, there are also development companies like BP Prudhoe Bay Royalty Trust (BPT) that earn royalties from oil and gas taken out of the North Slope in Alaska.
These oil stocks are relatively easy to invest in. As long as you know the ticker symbol, you can use your online broker to search for the stock and buy shares.
Other ways to invest in oil
You can get exposure to oil stocks through broad-based index mutual funds. S&P; 500 index funds and ETFs automatically include major oil companies and stocks. As a result, you could instantly have oil included in your portfolio without much trouble.
If you have the risk tolerance for penny stocks, you might be able to find low stock prices. However, it’s important to note that penny stocks aren’t listed on major exchanges. Although they are low cost, they can be hard to sell later, and they are also susceptible to scams.
Alternatives to investing in oil
Some investors might have oil by default in their broad-based funds but might be looking for alternatives to invest in.
Some robo-advisors, like Betterment, offer socially responsible funds that allow you to build a portfolio with renewable energy options. Additionally, there are solar panel and wind energy companies that you can invest in if you’re interested in alternative energy.
There are also ETFs like the iShares Global Clean Energy ETF (ICLN) that offer exposure to a variety of companies in the energy sector that produce solar and wind energy, as well as utilities that get at least some of their power from renewable sources.
The pros and cons of investing in oil
Before making any investment decision, it’s important to consider your own risk tolerance and portfolio goals. Any investment has the potential to result in loss, and investing in oil is no different.
The price of oil is also subject to volatility, so you need to consider your time horizon and how oil investments fit into your overall strategy.
Pros of investing in oil
- Potential returns as oil prices rise. When oil prices rise due to various factors, including global supply concerns, you could see higher returns later. This is especially true since oil is a fossil fuel and could see increased prices due to increased scarcity.
- Hedge against inflation. If you’re worried about beating inflation, investing in oil can be one way to help your portfolio weather changes in the economy. Because commodity ETFs typically rise with inflation, they could be one way to hedge your investments.
- Potential dividends from oil companies. Many oil companies, especially trusts, pay dividends, which are payments made to their investors based on their earnings. Depending on the company, you might be able to receive dividends based on your shares in an oil company.
Cons of investing in oil
- Price fluctuations can lead to losses. Oil prices can be volatile, often rising and falling quickly. You could end up with losses in the short term if there’s a drop in oil production in places like Saudi Arabia or Russia.
- OPEC has a big influence on oil prices. The Organization of the Petroleum Exporting Countries (OPEC) has a lot of power over returns. When OPEC members don’t agree or fail to make deals, it can influence the price of petroleum products worldwide.
- Oil exploration can be risky. Drilling doesn’t always result in oil, and some of the strategies for extracting oil in certain areas can be dangerous and costly. As a result, oil exploration company stocks can be a bit riskier.
Is it a good idea to invest in oil?
Whether you decide to invest in oil depends on your personal finance goals. Think carefully about whether you have the risk tolerance for oil investment and how it fits in with your overall investment strategy.
Investors who have a higher risk tolerance and want more portfolio diversification could also benefit from having a small amount of their asset allocation in oil.
Can you buy crude oil?
It’s possible to buy crude oil futures contracts. However, in order to do so, you need to use a broker that allows you to trade futures contracts. You might be subject to different minimums as a result.
Additionally, there are some ETFs that invest in crude oil contracts, and you can get exposure to crude oil through these investments.
What is the best oil ETF?
The best oil ETF is one that fits with your portfolio goals and overall investing strategy. There are some oil ETFs that have offered competitive returns, including BPT and the Energy Select Sector SPDR Fund ETF (XLE), which includes oil stocks.
Oil could look like an attractive investment when gas prices are on the rise, tempting some investors to invest in oil. However, before you move forward, it’s important to understand the risks involved, especially if you invest in futures or ETFs.
If you decide you want to invest in oil stocks, you can get started using one of these best investment apps.
Disclosure: The author has positions in USO and ICLN.
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