Crude oil is the most important commodity in the world. The dirty liquid has simplified local and intercontinental traveling and enabled the manufacturing boom that has helped get most of the world out of poverty. It has also enabled the large-scale agricultural activities.
However, with the most of the world moving to renewable forms of energy like wind and solar, oil seems undoubtedly in trouble. Some countries in Europe and Asia have announced that they will be banning combustion engine vehicles in the next few years. Their place will be taken by electric vehicles, like those manufactured by Tesla.
While there is a ‘war’ on crude oil, the fact is that at present, its demand around is rising. The rise in demand has led to a surge in price. In fact, crude oil is the best-performing commodities this year as shown below and as long as production levels do no increase, its price is very likely to keep on growing.
Why Invest in Crude Oil?
There are a number of reasons why you should consider investing in crude oil:
- Rising demand: with the middle class growing, the demand for crude oil will continue to rise.
- Finite resource: unlike solar and wind, crude oil is a limited resource. Therefore, as the supply diminishes, you can expect its price to keep rising.
- Liquidity: crude oil is the most traded commodity in the world. This volume creates a lot of liquidity, which allows you to enter and exit investments with ease.
- Many ways to invest: as will be explained below, there are many ways you can use to invest in crude oil.
- Accessible data: it is easy to understand the supply and demand dynamics in the crude oll market because of the data that is released by OPEC and EIA.
What Moves the Price of Crude?
When investing in any commodity, it is important to understand what moves the prices. For example, in stocks, the hiring of a new CEO or a launch of a better product can cause the price to soar. For crude oil, a number of factors can lead to upward and downward movements.
- Geopolitical issues: when there are geopolitical issues like violence in the oil-producing countries, the price tends to rise as investors anticipate supply cuts.
- Inventories: every week, the EIA and American Petroleum Institute (API) releases the inventories numbers in the US. A drop in inventories leads to a higher price will a draw-down leads to a surge in the price.
- Demand forecasts: every month, investors receive the demand forecasts from OPEC and EIA. An indication of increased demand leads to higher prices.
- Supply cuts: when the price of oil falls sharply, OPEC and other producers can intervene by cutting production. In turn, this leads to higher prices.
- Global economic performance: when the world economy is doing well, the assumption is that it leads to higher demand.
How to Invest in Crude Oil
There are many ways you can invest in crude oil.
Physical Crude Oil Investment
First, if you believe that the price of oil is very low, you can buy the physical commodity, wait for the price to rise, and then sell. However, this is a challenging and inefficient way to do it because it requires a lot of logistics.
Crude Oil Futures
Crude oil futures are listed in Chicago Mercantile Exchange (CME) and Chicago Board of Options Exchange (CBOE). As an investor, you can invest in these futures. A futures contract give you the right but not the obligation to buy an instrument at a later date. If you believe that the price of oil will rise in a given period, you can place call options and if you believe it will fall, you can place put options.
Oil and gas companies
There tends to be a correlation between the price of crude oil and that of oil companies. For example, when the price of crude falls, it leads to lower profits by oil companies and vice versa. Therefore, if you believe that the price of crude will rise, you can buy oil companies. Most of the companies involved in the crude oil are listed in the New York Stocks Exchange (NYSE) and Nasdaq. There are three key categories of oil and gas companies. These are:
- Upstream: these are companies that are involved in exploration and drilling the crude oil. Companies that provide the equipment for this are also in this category. Examples are ExxonMobil, Anadarko, and Pioneer Natural Resources.
- Midstream: these are companies that process, store, and transport the crude oil. Examples of these are Kinder Morgan, TransCanada, and Enbridge.
- Downstream: these are companies that refine the crude into usable products like gasoline, diesel, and other chemicals. Examples of these are Marathon Oil and Phillips 66.
Therefore, since these companies are publicly traded, you can invest in them if you believe that the price of crude will rise or if you believe that they are undervalued.
Crude Oil ETFs
If you want to have a more diverse portfolio, you can invest in the many crude oil Exchange Traded Funds (ETFs) that are available. A popular ETF is the United States Oil Fund, which tracks the price movements of the West Texas Intermediate (WTI) crude oil. There are other ETFs that are made of oil and gas companies. Some of the most popular crude companies ETFs are: VanEck Vectors Oil Services ETF, iShares U.S. Oil Gas Exploration Production, and SPDR SP Oil Gas Equipment Services ETF among others.
Crude Oil Index Funds
Finally, you can invest in crude oil index funds. An index fund is a financial security that tracks the stocks in a certain sector. For example, the SP GSCI Crude Oil index is a common index fund that tracks oil and gas companies in the SP 500 index.
While the world is transitioning from crude oil to renewable energy, the fact is that oil is irreplaceable at this time. As the world’s population rises, its demand will continue to rise. Therefore, you can use the methods explained above to take part in the industry. Before you do, I recommend that you spend some time reading more about the commodity. Books like The history of Standard Oil by Ida Tarbel and Understanding oil prices by Salvatore Carollo will be a good starting point.