This Halloween season, the scariest story for energy investors is how the price of crude oil keeps sliding. But don’t worry – there are ways to profit when oil prices go down.
But first, why are oil prices slumping anyway?
- Production Is Booming. In fact, oil production during the week ending October 18 averaged nearly 7.9 million barrels per day (bpd). That’s the highest U.S. weekly output of crude oil since March 1989.
- Supplies Are Building. According to the U.S. Energy Information Administration, crude oil inventories recently rose for five weeks in a row. The buildup brings stockpiles to within 20 million barrels of a record high.
- Economic Growth Remains Weak. Although the U.S. economy is growing, the bad news is the data points to weaker economic growth. In particular, private payroll growth recently came in way below expectations. Factory orders also slowed, and housing is losing steam.
- Iran May Be About to Open the Oil Floodgates. Western sanctions have slowly squeezed Iranian oil exports by 1 million bpd. But Iran is now reaching out to its former oil buyers. It is telling those potential buyers that it’s ready to cut prices if Western sanctions against it are eased. And that might happen because Iran is becoming more cooperative with the West on its nuclear program. President Hasan Rouhani, who was elected in June, is opening the door to a possible diplomatic resolution.
If Iran can sell a lot more oil – and sells it at a discount – that would send oil prices lower in a hurry.
To be sure, the best cure for low prices is low prices. Texas oilmen are already warning that many energy producers need oil prices around $96 a barrel to profit on deposits, including the Cline Shale and the Northern Mississippian Lime.
And if oil prices drop to $80 per barrel, parts of the oil-rich Permian zones beneath Texas and New Mexico will become real money-losers.
If prices fall below the cost of production, we’ll see producers start to shut in wells. They will only restart those wells when oil costs go higher again.
But in the meantime, it sure looks like oil is breaking down from its recent range, and we could see it test support around $90… or lower.
This leaves many energy investors scratching their heads, wondering how to play such volatility.
Here are three suggestions for playing low oil prices:
- Buy Dividend Payers on the Dips. Many energy companies pay very nice dividends, and those dividends can be secure even if the share price is riding a roller coaster. So, use price pullbacks to your advantage. Wait for a dividend payer to get near the bottom of its range, and then buy. Even if the company’s share price goes lower, you’ll be paid handsomely to be patient.
- Buy an ETF of Stocks That Rise as Oil Prices Fall. One example would be the iShares Dow Jones Transportation Average (NYSE: IYT, Stock Forum). It makes sense that transportation stocks will benefit from dropping oil prices, as fuel is a major cost for trucking firms and other transportation companies. Just be prepared to ditch the fund when oil prices go higher again.
- Buy a Refiner. As oil prices weaken, the profit margins of oil refiners can widen to Grand Canyon proportions as they see lower input costs. This is especially true now that so much of refined oil products are exported overseas.
These are just three of the many ways to play a pullback in oil prices. It’s hard to predict the price of oil. But energy investors shouldn’t let recent price volatility scare them this Halloween season. There are plenty of treats – profits – to be bagged as well.