If you remember the hit TV show “Dallas” from the 1980s, then the thought of oil probably conjures up images of fictitious millionaires like J.R. Ewing wearing ten-gallon cowboy hats and large steel oil rigs working away under the heat of a Texas sun.
Today, crude oil (also known as petroleum) has become a dominant 1.7 trillion dollar industry. While a good majority of crude oil ends up becoming gasoline or gas, it can also be found across a huge array of industries and commercial products. No wonder they called it “black gold” and “Texas tea”.
As a common investor, you can’t necessarily go load up a truck with barrels of petroleum (nor would you want to). But that doesn’t mean it can’t still be a valuable component of your investment strategy.
Here’s how to invest in oil without actually having to physically buy it.
Why Invest In Oil?
Make no mistake – oil is an economically crucial resource for the world. Without oil, not only would we not have gas for our cars, but many power plants and factories couldn’t operate and a multitude of products could not be produced.
Oil is one of the biggest consumables of our species, and even the slightest shift in its price can change the behavior of the world economy. This is why nations track its trading value just as carefully as they do companies listed in the stock market.
The Benefits Of Investing In Oil
The benefit of investing in oil is portfolio diversification. Just like its good for asset allocation to have a strong mixture of not just various types of stocks (large, small, growth, value, etc.), you also want other types of assets such as bonds, real estate, precious metals and commodities (which includes grains, gold, beef, natural gas, and – of course – oil).
To further this point, conventional wisdom says that oil and stock prices have an inverse relationship. That means that when the markets are down, the price of oil usually goes up. That can help you to hedge your losses with the markets are in trouble.
The Risks Of Investing In Oil
One of the downsides to investing in oil is that its price can be very volatile. Since oil is a global commodity that can be produced in many different countries, tensions between world leaders will often have significant impacts on its trading value.
How To Invest Your Money In Oil
There are several ways that you can make oil a part of your investment portfolio.
Invest In Oil Directly
The easiest way to buy oil without actually physically purchasing it is through oil exchange-traded funds (ETFs).
For example, the United States Oil (USO) Fund ETF is a security that’s designed to track the daily price movements of West Texas Intermediate (“WTI”) light, sweet crude oil. Owning roughly one share of a USO ETF is approximately the same as owning one barrel of oil.
Some other popular, similar options include:
Buy Oil Alongside Other Commodities
Since oil is part of a larger but more specific group of commodities focused on energy production, you will often find financial products that will bundle them together into one financial product. These are called energy-sector ETFs or mutual funds, and they will generally consist of oil, natural gas, and alternative energy.
Here are a few popular ETFs:
Here are a few popular mutual funds:
- Vanguard Energy Fund (VGENX)
- Fidelity Select Energy Portfolio (FSENX)
- T. Rowe Price New Era Fund (PRNEX)
Invest In Oil And Gas Company Stocks
Even if you’d rather not invest directly in oil or even energy itself, it may still be beneficial to put your money into the companies that produce it. What’s great about this strategy is that these mega-stocks have the financial strength and the access to capital to survive while many other companies in the economy may be faltering.
Plus, another awesome benefit to energy company stocks is that they often pay dividends to their shareholders. Many of them pay upwards of 3 to 4 percent yields whereas other stocks from the S&P 500 only pays 2.0 percent on average. So, if nothing else, you’ll receive a payment every quarter just for being a partial owner.
Consider looking into stocks from the following well-known oil/energy companies:
- Exxon Mobil (XOM)
- Chevron (CVX)
- Valero Energy (VLO)
- Occidental Petroleum (OXY)
- ConocoPhillips (COP)
Just like stocks, another interesting way to invest in oil is through the purchase of oil futures or oil options. A futures contract is an agreement to buy or sell some amount of oil on a particular date in the future. Options are a way to purchase these futures contracts.
In general, futures and options are highly speculative and can involve a great deal of risk. Only seasoned investors who have some experience with these types of securities should engage in them.
Master Limited Partnerships
One more way to invest in oil indirectly is to invest in the wells themselves. This can be done through something called a master limited partnership or MLP.
With an MLP, you are considered a partner even though you don’t have an active role in the business. This means you get special tax benefits. But beware they do require some unique reporting to the IRS.
Again, this strategy is somewhat more niche and should be reserved for investors who already some experience with these types of assets.
How To Buy ETFs And Mutual Funds
If you’d like to purchase any of the ETFs or mutual funds mentioned above, then you can easily do so through a broker.
Most brokers can be broken up into two main categories:
- Full-service brokers such as Vanguard and Fidelity
- Discount brokers such as E-Trade or TD Ameritrade
If you’d like a little help picking out which securities are right for you, or if you’d simply like someone else to do it for you, then you could use a robo-advisor instead. Some of the top choices are services like Betterment, Wealthfront, and M1 Finance.
Don’t forget – If you’d like to invest in oil or the energy sector and but would rather not have to pay any taxes on the capital gains and dividends for years to come, then you could purchase them through your retirement plans such as your IRA (individual retirement account) or 401(k).