Stock markets have been volatile in 2020. Following the impact of coronavirus, a further market meltdown took place on Monday 9th March, triggered by a dispute between major oil exporters Russia and Saudi Arabia over oil production levels.
Russia had turned down an offer by oil exporting group OPEC to cut supply to cope with dropping demand. In response, Saudi Arabia said it would pump more oil (and in so doing cut prices further). This exchange sparked fears of a price war.
As the current climate shows, oil can be very volatile. Its value is driven by supply, political and environmental factors, and the demand from high-energy-driven nations.
For some investors, falling prices are an opportunity. For those willing to take the risks, there is the potential to grab discounted oil stocks that are still good value - and will ideally rise. So how do you actually invest in it? In Australia there are four main options for investing oil:
Invest in oil company stocks
A simple way to invest in oil is through stocks of oil companies such as BHP (BHP), Woodside Petroleum (WPL) or Oil Search (OSH). Generally speaking, as the cost of oil changes, so will the value of these companies - although this isn't guaranteed and depends on numerous other factors.
Developing an understanding of the energy cycle, the landscape in the industry and the impact of price fluctuations will help you determine valuable oil-related assets.
Accessing the market this way is simple because shares can be purchased with an online broker or financial advisor.
- You can pick and choose a range of stocks and cash out when you want
- A simple, accessible and versatile way to access the market
- Oil stocks are volatile which means there's an opportunity to make high profits
- Many oil stocks are well-established in Australia and pay dividends
- Large businesses are involved in things such as refining, which don't actually benefit from higher oil prices, so oil company stocks don’t necessary move lock-step with the price of the commodity
- Oil stocks are regarded as being more volatile than other sectors which means that they're high risk
Invest in oil ETFs
Exchange traded funds (ETFs) give access to a whole load of assets, without having to put all of your money into individual firms. The process is pretty much the same as buying stocks, but instead you're buying an oil "ETF", which typically tracks the performance of oil stocks or the price of oil itself.
Commodity-based oil ETFs allows you to track and profit from the price of oil while industry sector ETFs allow you to track the stock price of oil companies.
ETFs can be purchased and sold in a manner similar to stocks however they can allow investors to reduce risk by investing in the broader sector, rather than individual companies. If you need to brush up on ETFs, check out our guide on ETFs.
In Australia we have just one ETF that tracks the price of oil (OOO), however we do have several resources and commodity sector ETFs that are exposed to oil:
- BetaShares Crude Oil Index ETF-Currency Hedged, Synthetic (OOO)
- BetaShares Global Energy Companies ETF - Currency Hedged (FUEL)
- VanEck Vectors Australian Resources ETF (MVR)
- SPDR S&P/ASX 200 Resource Fund (OZR)
- BetaShares S&P/ASX 200 Resources Sector ETF (QRE)
- ETFs allow for instant diversification across the oil industry, at a low price.
- ETFs have a better track record with providing safe, more reliable growth.
- By placing your money in an ETF, you relinquish some control over the split of assets.
Invest in oil futures
This is the most direct way to purchase the commodity without literally purchasing barrels of oil. With the traditional method of futures trading, you buy a contract to purchase oil at a future date at a specified price, which you can in turn sell. This allows you to profit from oil price fluctuations.
In Australia, futures are primarily traded through a commodities CFD broker – many which are available online. Instead of purchasing physical oil, you're trading a contract that agreeing to profit or loss depending on the price change of the underlying asset. This means you can profit from oil CFDs regardless of whether prices are rising or falling.
Futures are extremely volatile and riskier than other investment options. You have to be right on the timing and price movement.
The two most widely traded oil markets in the world are:
- West Texas Intermediate futures (US benchmark)
- Brent crude futures (global benchmark)
- Oil futures are among the most actively traded future on the market and hence the among the most liquid.
- All futures are volatile investments and oil is no exception. No one can predict with any degree of certainty how the pice of oil will fluctuate.
- Futures expire on a certain date. If you fail to exercise them prior to expiry they become worthless.
Invest in MLPs
Primarily existing in the gas and oil industry, A Master Limited Partnership (MLP) is a tax-advantaged corporate structure. It combines the tax benefits of a partnership – profits are taxed only when investors actually receive distributions – with the liquidity of a public company.
Typically, these companies own the pipelines that carry the commodity from one place to another.
Risks to MLPs could come from a slowdown in energy demand, environmental hazards, commodity price fluctuations, and tax law reform.
- Companies can offer a very attractive dividend payment.
- MLPs can easily be purchased through financial advisors or online brokers.
- MLPs are subject to general market risk and low energy demand.
- Stock prices don’t necessary move lock-step with the price of oil
Compare brokers to invest in oil stocks and ETFs
Important: Share trading can be financially risky and the value of your investment can go down as well as up. Standard brokerage fee is the cost to trade $1,000 or less of ASX-listed shares and ETFs without any qualifications or special eligibility. If ASX shares aren’t available, the fee shown is for US shares.
Compare brokers to invest in oil futures
Disclaimer: CFDs and forex are complex financial products that come with a high risk of losing money. Most retail client accounts lose money trading CFDs and forex. Consider whether you can afford to lose your money.
What are the risks of investing in oil?
While long-term investments in oil companies can be highly profitable investors should understand the risk factors before making investments in the sector. These risks include:
- Price volatility: large price fluctuations can occur daily due to unpredictable influences such as supply and demand.
- Dividend cuts: If a company is unable to earn enough revenue to fund payments to investors dividend can be cut.
- Oil spill risk: Accidents such as oil spills can cause a company's share price to drop significantly. In 2010 BP saw a decline of over 55% to their stock in the wake of the Deepwater Horizon oil spill.
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