Two major events have driven the price of oil up recently. First, oil breached overhead resistance. Whether we are talking about Brent Crude, West Texas Intermediate or any of the other oils, the major trading assets have decisively broken out of a multi-year trading range.
You’ll recall that oil cratered in 2015, which slammed the energy sector. The blue chips of the oil sector (those with balance-sheet fortresses) were able to survive. Oil services stocks were a hit-and-miss depending on size and type of business. If you remember, fracking and shale companies had it rough, because most had high-priced debt that could not be serviced.
Once West Texas Intermediate Crude broke above $50, the move up was confirmed by the 50-day moving average finally crossing above the 200-day moving average.
On top of this is the political instability in Saudi Arabia. Yet, the breakout occurred before that, so we may see a sustained spike up until the political situation resolves. Even then, the price may stay elevated.
Here’s how to play the breakout. For all purchases, set a stop loss 7% below your purchase price.
Conservative: Buy The Big Boys
When it comes to any long-term diversified portfolio, it is critical that it energy be included in some form or another. No matter what part of life you can think of, energy is involved.
Higher oil prices will be greeted fondly by the large explorer/producers. Because of their economies of scale, when times are tough, they can afford to restrict production. When times are good and oil prices are high, they can get all their resources out there.
I think any of the legacy oil companies make for fine choices. These days, I like Exxon Mobil Corporation (NYSE:XOM), not only because of its overall health but because Rex Tillerson was named Secretary of State for a reason. I believe this will ultimately grease the wheels for sanctions to be lifted against Russia, so XOM and Rosneft can begin on their long-delayed joint venture.
That being said, I am long BP plc (NYSE:BP), from the low $30s, because the worst of times are behind BP. The stock is up significantly and broke out to a multi-year high.
Aggressive: Buy Oil ETFs
This is for the most aggressive of investors. There are many exchange-traded funds (ETFs) that trade directly in oil. The first selection is United States Oil (NYSEARCA:USO). This ETF is tied to the daily price fluctuation in light sweet crude which is meant to reflect daily price changes in light sweet crude.
The breakout was at $10.65, and the move was confirmed by the 50-day MA crossing above the 200-day MA. A further break above $12.25 is next.
If you want to hedge that bet, you could buy Credit Suisse X-Links Crude Oil Shares Covered Call ETN (NYSEARCA:USOI). This gives you a position in USO “but with a notional short position in USO calls, expiring the next month with strike prices 6% out of the money.
The strategy adds yield and lowers volatility compared to owning USO outright, but at the cost of upside participation.”
Want to be super-aggressive, purchase a 3x leveraged position, providing 3x exposure to the move in crude oil, such as the ProShares UltraPro 3x Crude Oil ETF (NYSEARCA:OILU).
Medium Risk: Buy Oil Services
In this case, you are buying into the idea that higher oil prices lead to more exploration and production. That means these companies will need oil services, such as storage, movement and infrastructure. These stocks will see some near-term boost on the price movement, but will more likely see large moves up or down depending on whether the oil price increase is sustainable.
Now, this is a derivative investment in oil, so there can be some volatility. However, most legacy oil services companies have excellent balance sheets, so they can survive long-term downtrends as we’ve seen.
Consider VanEck Vectors Oil Services ETF (NYSERCA:OIH) which peaked at $54 per share in 2014 and closed at $25.93 on Monday. Not only that, it is still pretty close to its multi-year low, so there’s plenty of possible upside.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance and is the Manager of The Liberty Portfolio at www.thelibertyportfolio.com. He owns BP and OILU. He has 22 years’ experience in the stock market, and has written more than 1,600 articles on investing. Lawrence Meyers can be reached at [email protected].