Investors interested in adding alternative investments to their portfolios may want to consider oil futures. It checks all the boxes for an aggressive investor: oil futures are speculative, can be highly volatile, and involve margin loans that increase profits (and losses).
Interested in investing in the future of oil? Here’s what you want to know.
Read more: Oil trades like a meme stock – here’s why it’s not one
Investing in oil futures is buying or selling a contract for 1,000, 500, or 100 barrels of oil at a future specified price. The contracts are typically traded on West Texas Intermediate (CL=F), the US market benchmark, and Brent crude (BZ=F), the global oil benchmark.
Most investment brokers do not offer futures trading, but Charles Schwab, Robinhood, Coinbase, E-Trade, Interactive Brokers, NinjaTrader, TradeStation, and Webble do.
To be approved to trade commodities, brokerages usually need to:
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Minimum account value as required by the brokerage
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An account with margin approval (approval to borrow money from a brokerage)
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Appropriate Investor Risk Profile form on file
Traders may use oil futures to trade in other petroleum-related investments such as oil, gas and petroleum exploration company stocks.
How Oil Futures Trading Works:
you Buy a futures contract If you expect Oil prices are rising.
you Sell a contract If you believe Oil prices will fall.
One of the best ways to determine whether futures trading is right for you is to use a trading simulator. Before you commit real cash to the oil futures market, you can test your ideas in a real trading environment with live market data.
As you gain experience in the practice of trading futures, with no capital risk, you can build confidence in your strategies and then be ready to put money on the line.
Read more: 5 Ways Oil Prices Above $100 a Barrel Can Hurt Your Wallet
Futures trading is often done through margin accounts. It raises a position while using less upfront cash. You make a good faith deposit in your account, from which 2% to 12% of the contract value is deducted. A minimum marginal balance must be maintained, known as the “marginal year”.
Charles Schwab offers an example:
“If a trader expects crude oil prices to rise, they might buy five micro WTI crude oil contracts at $65 per barrel, placing at least $2,550 in initial margin (a good faith deposit) to create a position in the futures contract with a value of $32,500.
“If the price of oil rises to $66, the notional value of the futures position will increase by $500 ($1 x 100 barrels x 5 contracts) to $33,000. If the trader sells these five contracts at $66, they will make a profit of $500 minus the cost of the transaction.”
“But if oil prices fall, that same leverage will work against the trader, increasing losses.”
The Commodity Futures Trading Commission warns investors to approach the market with caution.
“Speculating in commodity futures and options is a volatile, complex and risky investment that is rarely suitable for individual investors or ‘retail customers,'” the CFTC noted in an educational piece. “Many people lose all their money, and may end up paying more than they started with.”
Read more: What is a strategic petroleum reserve, and can it help lower gas prices?
If you’re still not ready to jump into oil futures, there are other options:
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Oil exchange traded funds: ETFs such as USO (USO), BRNT (BRNT.MI) (BRNTN.MX), DBO (DBO), and OILK (OILK) track oil prices. Expense ratios range from 0.60% to 1.43% or more.
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Energy storage: Oil company stocks such as ConocoPhillips (COP), Occidental Petroleum (OXY), and Texas Pacific (TPL) can offer exposure to the sector.
Oil Futures
