If investors are keen to make the most of investing in crude, they need to be cognizant of the supply and demand side pushes and pulls.
Crude oil has often been described around the world over as black gold and rightly so. Among all the commodities like precious metals, agri commodities, base metals etc., crude oil is the most volatile and consequential to everyday trade. The world economy relies heavily on its distribution, with the ecosystem replete with competing oil producing nations and those that are reliant on its imports. Moreover, trading crude oil on commodity exchanges might be a profit making exercise, as it is the engine that drives economic growth across the developing as well as developed economies.
On the stock market front, it is the volatility in prices, the liquidity of crude as a commodity, and the various other factors that contribute to the fluctuations, which then impacts the price. It is essential to understand these factors to know what to expect from trading a commodity like crude oil and make money from it.
Here are some of the ways to make monetary gains from trading crude:
1) A skin in the game
If investors are keen on making the most of investing in crude, they need to be cognizant of the supply and demand side pushes and pulls. Production at crude facilities and demand for the commodity is heavily dependent on the global economic output, and the ability of countries to purchase higher quantities. For instance, if it is oversupplied, the demand usually falls, resulting in the shutdown of production facilities, and sale of oil barrels for a much lower price. On the other hand, stable production trends allow for higher price bidding. It is essential for investors to keep track of these developments round the clock.
2) Having a trading strategy in place
Just like in the case of equity markets or mutual funds, investments in energy futures such as crude oil too have thousands of experts whose job it is to use this commodity market as a hedge against other speculative markets. These are people who have gained expertise in reading the geopolitical scenarios taking place in the world every day, and implying their impact on crude prices and their trade.
Therefore, it is essential for retail investors to have a strategy in place that isn’t just driven by emotion, like in the case of stock market investments. Taking the assistance of portfolio managers and market advisors isn’t a bad option, as they will help you in understanding the energy ecosystem. Additionally, attempts need to be made on the part of investors in understanding the consequences of global socio-economic and political trends. For instance, if a war like situation emerges in the Middle East, or oil producing nations are sparring over the industry’s hegemony, it could lead to a massive rise in prices or excessive supply of oil barrels respectively.
3) Differentiating between different types of crude
It is important to know the difference in trades of Brent and West Texas Instrument (WTI) crude. One is an offshore produced oil, while the latter is produced inland in the US through fracking. India is an importer of Brent crude, and there are others who utilize WTI crude. In terms of price, the earlier established convergence between Brent and WTI has begun to diverge since the previous decade, owing to higher WTI production and output as compared to offshore Brent. As an investor, if you’re interested to place your bets on both options, it is necessary to know their individual performances.
4) Reading China's and India's economic situations right
India and China are one of the largest importers and consumers of crude in the world and their internal economic conditions have ramifications across the globe. A slowdown in the domestic economy can affect the price of crude due to a fall in demand and excess supply. Similarly, economic prosperity leads to higher consumption, influencing higher auto sales, industrial use of crude, and logistics and supply chain industries. Therefore, it is essential that investors keep track of domestic developments of crude importing nations, to understand how that influences the global energy markets.
5) Relying on the trends of institutional investors
Be it in India or elsewhere, institutional investors, nationalized oil corporations, aviation companies’ etc. trade for crude heavily in the tune of hundreds of barrels. The idea is to essentially use it as a hedging strategy against price fluctuations or increases in the future. The advantage for big-ticket investors is that they wouldn’t have to store the large quantity of crude at their own facilities. It acts more like a receipt, wherein the times of price rise, oil companies can meet the energy requirements of their respective populations, without having to shell out extra money when the prices increase. By observing hedging strategies, investors could also understand the trends in the market.
Further to this, institutions also pool in resources to make their own discoveries both on and off-shore. Being vigilant about global scenarios can always serve investors well, and if coupled with expert advice, investors will rake in returns from the energy markets.
(Prathamesh Mallya, AVP-Research - Non-Agri Commodities and Currencies at Angel Broking.)Disclaimer: The views and investment tips expressed by investment expert on Moneycontrol.com are his own and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.