5 June 2020

How to Invest in Oil Stock Market

By DICC Institute

What is the value of oil? How does the price of oil vary? What is the cause of the current fall in oil prices and what will be the consequences? Should we invest in oil in this context? What are the different ways to invest in oil? Also find our comparison of stock brokers to position yourself on this very specific raw material. Explanations and advice for investing in oil and trading is also covered in this article and also you can join our stock market course in Delhi to have complete understanding about how to make investment in Oil and other commodities.

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OIL: DEFINITION AND PLACES OF PRODUCTION

Petroleum, comes from the Latin petroleum, which is derived from the Greek words petra which means “rock” and Latin oleum, which means “oil”. It is a liquid rock of natural origin composed mainly of hydrocarbons. Raw material of the energy sector, it occupies a major place in our industrialized economies.

The main oil producing countries are: the United States, Saudi Arabia, Russia, Canada, Iran, Iraq, the United Arab Emirates, China, Kuwait and Brazil (source: 2018 ranking of BP Statistical Rewiew of World Energy from 2019).

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COMPARATIVE ONLINE BROKERS TO INVEST IN PETROLEUM

To invest in petroleum, online brokers provide you with a range of derivatives and funds that will allow you to position yourself on the Brent or WTI price. Via a stock broker, you will also be able to invest in the stock market shares of oil companies.

Find below our comparison of stock brokers to deal with petroleum and commodities via derivatives, ETFs, UCITS or stock market stocks of oil companies.

The reference unit of oil is the barrel. Perhaps you are asking yourself: what is investing in Brent oil or how to invest in a barrel of WTI oil? On the stock markets, the terms Brent barrel and WTI barrel are used. In both cases, it is a barrel of oil, or 42 US gallons which corresponds to about 159 liters of raw material, but the composition of the oil is not identical.

WTI, West Texas Intermediate, is the benchmark for petroleum in the United States. It is the standard type of oil used to set prices with NYMEX.

Brent, for its part, takes its name from the acronym of various oil fields in the North Sea (Broom, Rannock, Etive, Ness and Tarbert). Light and less sulfurized than WTI, it allows to fix the prices of more than 2/3 of the negotiated oils.

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THE INTRINSIC VALUE OF OIL

 Oil is a strategic energy raw material. In fact, the exploitation of petroleum is one of the pillars of the contemporary industrial economy, because this fossil energy provides almost all liquid fuels – fuel oil, diesel, kerosene, petrol, LPG – while the naphtha produced by refining is the basis of petrochemicals, from which come a very large number of common materials – plastics, synthetic textiles, synthetic rubbers (elastomers), detergents, adhesives, fertilizers, cosmetics, etc. – and that the heaviest fractions enter into the composition of bitumens, paraffins and lubricants.

Oil, a raw material with special status

Petroleum is a very particular raw material because of its importance in industry and as a consumer good (gasoline) but also because of the organization of its production. In fact, almost 40% of world oil production comes from OPEC (Organization of Petroleum Exporting Countries) countries. This cartel brings together 13 countries (Algeria, Angola, Saudi Arabia, Congo, United Arab Emirates, Gabon, Equatorial Guinea, Iraq, Iran, Kuwait, Libya, Nigeria, and Venezuela) and aims to negotiate the price and future concession rights with oil companies. The objective of this organization is to influence oil prices. The main tool of OPEC to control oil prices is the establishment of production quotas to play on supply, and therefore on prices.

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HOW DOES THE PRICE OF OIL VARY?

Oil supply and demand

The supply depends on the production of the producing countries and their willingness and / or ability to export. Indeed, OPEC countries meet regularly to set a production ceiling and thus control supply. In addition, embargoes or economic sanctions can prevent a country from exporting its oil. For example, economic sanctions against Iran have until recently prevented it from exporting its oil as it wished. In the United States, the lifting of the export ban paved the way in 2016 for a new boom in this market. “Less than a week after the US Congress agreed to lift the ban on the country’s exports, the price of futures on American oil (WTI) exceeded that of the international standard, Brent oil. The parity between the WTI and Brent was reached even before the contract was signed in Congress “explained in 2016, Jasper Lawler, Analyst CMC Markets. This shows the impact of this measure on the price of oil!

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The world supply of oil can also increase significantly thanks to the discovery of new oil fields and the large-scale production of shale oil. In 2017, the United States established itself as the world’s leading oil producers, ahead of Saudi Arabia .

A context of global economic growth induces an increase in oil consumption. This contributes to the rise in oil prices, particularly if the level of production stagnates. Conversely, during an economic downturn, demand for oil weakens. Oil is indeed a basic raw material of our industrialized economies. However, in the first half of 2020, the very marked slowdown in economic activity, a consequence of containment policies to fight against the Covid-19 pandemic undoubtedly led to a drop in activity and therefore in demand for oil: journeys by car have been reduced to only derogatory journeys, air traffic is almost zero, the factories are largely stationary. 

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The price of oil directly linked to the geopolitical context

Geopolitical tensions are one of the main factors driving oil prices. However, contrary to what one might think, tensions in the Middle East do not systematically lead to an increase in the price of a barrel. For example, in January 2016, tensions between Saudi Arabia and Iran led to a collapse in prices, even if this is one factor among others. However, in September 2019, tensions between Iran and the United States and drone attacks in Saudi Arabia led to a sharp increase in the price of a barrel, by more than 15%.

The price of oil compared to other raw materials

We can estimate the relative value of oil by comparing its price with that of other raw materials in the energy sector, such as gas for example, and judge whether it is (relatively) expensive or not. However, oil and gas prices tend to move in the same direction, so we cannot use this correlation to determine if oil is trading today at the right price, but it can be used by the specialized trader to arbitrate between several raw materials in the energy sector.

WHY CAN THE PRICE OF OIL BE ZERO OR NEGATIVE?

A marked drop in demand over several months can lead to problems with the storage of oil, which will affect the price of a barrel of crude oil, with a slight delay depending on the date of the futures contracts, which are widely used to trade this type of raw material. . In the event of an acute crisis, the price may even go into negative territory. This is the situation we experienced in April 2020.

In fact, on April 20, a barrel of WTI for delivery in May first tumbled to zero before closing at a negative price of -37.63 dollars – an unprecedented phenomenon in almost 40 years of oil prices! Does this mean that oil is no longer worth anything? Of course not. This aberration is mainly based on one of the main financial products which allow oil and many commodities to be traded in futures contracts.

With a futures contract, both parties agree on a price at an instant delivery at a future date. This famous April 20, it was the futures contracts on the barrels of WTI in May which collapsed because the delivery was to take place the next day, April 21. With the drop in demand linked to the coronavirus crisis (planes on the ground, cars in the garage and factories idling), the black gold storage capacities have for several weeks already reached to saturation point and nobody wants to end up with barrels on their arms, which explains the negative prices observed on April 20. Especially since the said barrel is not delivered in a container and the storage cost is not trivial. Buyers therefore preferred to pay for not receiving the goods rather than taking possession!

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STOCK MARKET: HOW TO INVEST IN OIL?

Perhaps you are wondering how to invest in oil on the stock market? How to invest in Brent oil or WTI?

There are several possibilities for the individual investor who would like to invest in black gold. Discover in this video how to invest in oil via the main financial assets allowing you to position yourself in oil.

Derivatives to trade oil

You can choose to invest in oil via derivatives like CFDs, futures, but also stock market products like Turbos. Derivatives are aimed at experienced traders who can directly speculate on oil.

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Please note, some derivatives are stock market products, listed, and regulated like turbos for example, and allow you to position yourself on the crude prices without risking or losing more than the amount initially invested. Others, like CFDs, are products that are traded over-the-counter and can cause the investor to lose, in the event of poor anticipation, a sum greater than that initially invested. Caution is therefore advised and this type of investment in the oil market will be reserved for the most experienced traders, familiar with derivative products and on the short-term investment horizon.

ETFs to invest in oil

Trackers are excellent ways to invest in oil over the medium to long term in particular. But what is investing in oil via an ETF? The ETFs or trackers are exchange traded funds on the stock market that exchange like a stock. Their objective is to replicate the performance of a benchmark index which can be the oil index or the index of the raw materials sector for example.

The shares of companies in the petroleum sector to position themselves indirectly on black gold

You can also invest in companies directly linked to this market, such as oilfield companies such as Royal Dutch Shell, BP or Total. There are also many oil services activities whose links with the oil sector are less obvious but just as direct.

In addition, UCITS  make it possible to invest in companies in the petroleum sector by delegating the management and choice of companies to a manager specialized in raw materials and in the petroleum market.

All these financial assets are available from your online broker and can be housed in a securities account or on a PEA (remember to check for the latter that the desired action is indeed eligible).

WHERE TO INVEST IN OIL?

 You may be wondering how to invest in oil in Africa or another region of the globe. The oil market being globalized, know that it is not possible to target the producing region when buying an ETF or a derivative whatever it is. To invest in petroleum in Africa (or elsewhere), a particular investor will necessarily have to go through the petroleum companies that exploit petroleum in these regions because he cannot buy petroleum directly from wells and manage deliveries, store raw materials, etc.

As a private investor, it is only possible to target your region of production by buying from companies that exploit deposits in the targeted territories. For example, many majors exploit oil in Africa like Total Gabon. In Saudi Arabia, Saudi Aramco , the world’s first market capitalization, exploits black gold. In China, we can cite the company Sinopec.

OUR TIPS FOR TRADING OIL

After several weeks of decline, the price of a barrel started to rise again in January 2019. It must be borne in mind that, as oil is a strategic energy material that affects many sectors, these chaotic fluctuations have important consequences. Oil can indeed drag down sectors sensitive to raw materials, and, by contagion, the world stock markets. But the coronavirus crisis has also shown us that the fall in world stock markets could in its wake lead to that of oil prices.

Here are the main things to keep in mind when you want to trade oil.

Lower oil prices positive for global growth

Low oil prices, in the medium and long term, cause a transfer of income from savers to consumers and help reduce the propensity to save, which weighs on real world neutral rates. The low oil prices we are currently experiencing could be one of the levers to support the economic recovery. For certain sectors such as air transport, this is a particularly important element since kerosene represents the first item of expenditure for airlines which are suffering greatly from the crisis linked to the Covid-19 epidemic. However, oil may well start to rise again along with demand.

A drop in the price of a barrel of oil has strong repercussions

Oil and liquidity fears are driving up risky bond rates. Many oil-stamped currencies are suffering the full force of the depreciated oil and the strong dollar. This is for example the case of the Canadian dollar and the Norwegian krone, the two oil-exporting countries of the G10 are particularly affected in the event of a drop in the barrel. As always in times of significant fluctuations and turbulence in the markets, gold remains a safe haven highly prized by investors. Investing in yellow gold today is betting on a bearish outlook for black gold. Conversely, to consider that it is already too late is to consider that oil has reached its floor price.

A fall in the price of a barrel necessarily leads to a concentration of the sector

It is even on this assertion that the Saudi strategy is based which wishes a collapse of prices to eliminate from the market number of American producers, which would push “the United States to contribute to the downward adjustment of world production” explains Florence Pisani, Director of Economic Research at Candriam. In fact, the production costs of American shale oil are high. Thus, the barrel of WTI produced in Texas, New Mexico or Louisiana displays high production costs. According to a recent Dallas Federal Reserve survey, they must average between $ 23 and $ 36 per barrel to cover the operating costs of existing wells. The current low oil prices could therefore push several players to shut down,

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SHOULD WE INVEST IN THE OIL MARKET?

The current economic context is completely new. The very large-scale Covid-19 health crisis brought economic activity to a halt, resulting in a major economic crisis that led to a recession which we do not know when we will see the end. This sudden and very significant drop in economic activity obviously had an impact on demand for oil, which fell considerably, causing prices to fall in its wake.

Taking into account, on the one hand, the drop in demand and the pressure on prices exerted by the need to stock unsold and unconsumed barrels, and on the other hand, the very low price of oil, we can actually wonder if the context is favorable for investment in the oil market. Difficult to say anything today. Indeed, for the price of oil to rebound, there would have to be both “more substantial reductions in production” in the future (to avoid storage-related tensions) but also and above all “better prospects for the increase in demand which should follow the process of “deconfinement” in the different countries “explains Nadège Dufossé, Head of Asset Allocation at Candriam.

WHEN TO INVEST IN OIL?

 The barrel of Brut was still trading 60 dollars a few months ago; it has since reached negative territory (unheard of for decades) before recovering to position around 20 dollars per barrel. We are therefore entitled to wonder if this is not the right time to invest in the oil market. Attention, the greatest caution is required. First, the price of oil is extremely volatile. Then, it is absolutely not certain that the recovery will take place over time and other declines may occur, especially if it is a recovery in W and not in U.

In addition, economic activity, halted net by the coronavirus epidemic and the containment of populations, should only start to recover gradually in the months to come. Certain sectors could still be very badly affected for many months, notably the air sector, a large consumer of oil. Demand may therefore not return to levels similar to those before the crisis for a very long time. For Keith Wade, chief economist and strategist at Schroders: “The oil market has never seen a decrease in demand of this magnitude […], this will have a long-term impact on the dynamics of supply oil industry for many years. And despite recent production cuts, demand will remain the main driver of any recovery. ”

It may therefore be wise to take advantage of the drop in crude prices to invest in oil now, but only if you have a long-term investment horizon and are not too risk-averse. It will also be advisable to invest in this extremely volatile raw material only a small part of your wealth. For traders wanting to position themselves up on oil, it is essential to identify from a technical point of view, the consolidation zone which could serve as a starting point for a lasting recovery in crude oil prices.

Some questions about investing in petroleum?

How to invest in oil on the stock market?


There are many ways to invest in petroleum: derivatives for experienced traders who want to invest in the short term, ETFs to invest in the price of Crude in the medium to long term, but also stocks of oil companies, for example, via live securities or UCITS.

When is the best time to buy oil?


It seems wise to invest in oil when prices reach historic lows. Be careful however, as long as the reasons why prices have fallen are present, the recovery is compromised. In addition, remember that the price of black gold is very volatile and that it is less risky to invest with a long-term investment horizon.

What evolution to expect from the price of oil?


Oil prices vary above all according to supply and demand. It is therefore a safe bet that prices will resume once the Covid-19 crisis has passed. However, it is not certain that demand will return to as high a level as the months before the coronavirus crisis immediately. Production decisions by OPEC countries will also play a crucial role in the price war that Saudi Arabia is waging against the United States.

Disclaimer: All our information is, by nature, generic. They do not take into account your personal situation and do not in any way constitute personalized recommendations with a view to carrying out transactions and cannot be assimilated to a financial investment advisory service, or to any incentive to buy or sell instruments. The reader is solely responsible for the use of the information provided, without any recourse against the publisher of dicc.in being possible. The responsibility of the publisher of dicc.in can in no way be engaged in the event of an error, omission or inappropriate investment.

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