The world was shocked when the Brazilian energycorporation
Petrobras (
PBR
)
announced in 2007 the discovery of a massive oildeposit .
Buried deep under the Atlantic Ocean, the Tupi oilfield, due
east of Rio de Janeiro, was said to contain 5 to 8 billion barrels
of oil.
Quite suddenly, this semi-nationalized Brazilian oil company
became one of the hottest energystocks in the world.
Petrobras'shares tripled in value from the summer of 2007 to the
summer of 2008, pushing itsstock market value north of $200
billion.
But this story doesn't have a happy ending. Getting to all that
oil proved costly, and it's taking alot longer to generate
production than had been hoped. A once-hot energy stock has since
cooled off.
The rise and fall of Petrobras illustrates why many investors
who want exposure to the energy-exploration industry are
sidestepping direct purchases of individual stocks and buying
exchange-tradedfunds (
ETFs
) instead. These funds take a broader approach, owning a group of
companies thatwill benefit from the sustained growth in the oil and
gas industry.
In fact, some ETFs directly focus on energy prices, bypassing
the companies involved in energy extraction, refining and
marketing.
Let's take a closer look...
Theblue chip producers
The
Energy Select SectorSPDR (
XLE
)
is a favorite choice for many. Thisfund charges a measly 0.18%
annual expense fee and lets you own a little piece of the
industry's best companies. Here's a look at the top five
holdings.
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The third-largest holding in thisETF ,
Schlumberger (
SLB
)
, isn't even an energy producer. The company provides a wide range
of services to the top energy producers and tends to benefit when
energy prices are firm and energy drilling activity is robust. This
fund also owns many of the U.S. firms that are focused on the
natural gas opportunities buried in our country's various shale
regions.
Other ETFs that focus on energy producers include:
-
First Trust AlphaDEX Fund (
FXN
)
-
iShares Dow Jones U.S. Energy SectorIndex Fund (
IYE
)
-
SPDR S&P Oil and Gas Exploration & Production
ETF (XOP)
Thecommodity ETFs
As the Petrobras example shows, exploring for oil doesn't always
reap sudden profits. It's a cost-intensive business, andprofit
growth can be elusive while companies ramp up their capital
spending. That's why some investors prefer to own ETFs that more
squarely focus upon the prices of oil and natural gas. As an
example, we saw natural gas prices rise more than 50% since the
spring of 2012, but companies that produce natural gas didn't see
their share prices rise nearly as quickly.
A quick peek at the
U.S. Natural Gas ETF (UNG)
shows how investors directly profited from spiking natural
gas prices.
[See also: Economy -- and Make a Fortune for Investors]
Just like this fund, there is a corresponding ETF that focuses
on crude oil. The
U.S. Oil ETF (USO)
tracks the price movement of crude oil; it delivered robust
gains when oil prices shot up in early 2008. Of course, the
converse is also true. A sharp pullback in energy prices won't
impact the companies' stock prices nearly as much as these
commodity-focused ETFs.
Why would a typical investor make such a seemingly bold bet on
energy prices? Many people use ETFs like these as a simplehedge to
protect otherinvestments in their portfolio. For example, an
investor that has a large stake in an airline carrier like
Delta Airlines (DAL)
or
Southwest Air (LUV)
would suffer deep losses if crude oil prices surged and
airlines became unprofitable. They'd at least gain some benefit by
buying these ETFs, which would rise in price if crude oil prices
rallied.
Getting Some Leverage
ETF investors are also moving more aggressively into "2X" or "3X"
funds. These funds move at twice or three times the rate of the
underlying commodity price. For example, the
ProShares Ultra Dow Jones Crude Oil ETF (UCO)
is a "2X" fund, which means it will rise 20% if crude oil
prices rise 10%.
Investors also can position themselves against rising energy
prices by buying "inverse" funds, which move in the opposite
direction of the underlying commodity price. For example, the
PowerShares DB Crude Oil Short ETB (SZO)
moves in the opposite direction of crude oil prices, while
the
ProShares UltraShort Dow Jones-UBS Crude Oil ETF
(SCO)
will move in the opposite direction of crude oil prices -- at
twice the speed.
[See also:
Why Natural Gas Could Be 50% Higher in the Next few
Years
]
Lastly, ETFs that focus on companies operating our nation's
energy pipelines have become popular. Many of the companies in this
industry are structured as MasterLimited Partnerships (MLPs), which
means they don't have to pay incometaxes at the corporate level.
They are known for impressive dividend yields. A popular ETF in
this segment is the
JP Morgan Alerian MLP
Index ETN (AMJ)
, which currently offers adividend yield in excess of 5%.
Action to Take -->
For many investors, the era of stock-picking is coming to an
end. Instead of identifying the best company in an industry, many
investors now simply prefer to glean exposure to the best
industries. In the energy sector, that's proven to be an especially
popular strategy, as investors tire of trying to figure out
whether
ExxonMobil (XOM)
,
Chevron (CVX)
, Petrobras or some other firm will be next year's industry leader.
Chances are, most of these firms will flourish in tandem, making
the ETF path more savvy.
(Author's note: Two funds cited in this article are referred
to as an "ETN" or exchange-tradednote . They are fundamentally
similar to ETFs, though they don't own company stock directly and
instead own financial instruments, such asbonds issued by the
fund'sunderwriter ).
This article originally appeared on InvestingAnswers.com:
The Best Way To
Invest In Energy Right Now