Crude oil is one of the world’s most heavily traded commodities. This guide to crude oil investing will look at ways to try to benefit from rising or falling oil prices, as well as key factors to take into account when deciding whether to invest in this industry.
Crude oil is one of the world’s most heavily traded commodities. The crucial role oil plays in fuelling the global economy and the way geopolitical and macroeconomic factors influence oil price levels makes it a relatively complex market to understand.
This guide to crude oil investing will look at the different ways that you can try to benefit from rising or falling oil prices and how to get started if you decide to do so.
What is crude oil?
Crude oil is a liquid fossil fuel found beneath the ground which contains mixtures of hydrocarbons. It is formed from the remains of animals and plants and can be refined into products such as gasoline, diesel, jet fuel, lubricating oils, and asphalt.
The massive level of consumption of crude oil and variety of uses for its refined products make this one of the world’s most valuable assets. Fossil fuels account for over 60% of the energy generated in the US, with oil accounting for 33% of the planet’s total energy production.
The United States was the world’s top crude oil producer in 2023, with an average of 21.91 million barrels each day, followed by Saudi Arabia (11.13 million barrels), Russia (10.75 million barrels) and Canada (5.76 million barrels). The top three consumers of oil in the same year were the US, China, and India, which combined represented 40% of global crude oil consumption.
Tip: A portfolio that contains a wide range of assets will have a lower level of risk than a portfolio that simply focuses on one asset such as oil.
Oil markets can be highly volatile and the cost of a barrel of oil can vary widely from one day to the next. It is tracked in indices such as the Brent Crude Index and the West Texas Intermediate (WTI) which are markets trading in different grades of oil from different locations.
How does the oil industry work?
The oil industry can be divided into three segments,known as upstream, midstream and downstream, and each plays an important part in the market.
- Upstream is the very early part of the oil and gas industry, where exploration is carried out to find new reservoirs that can be drilled. Drilling and the initial production processes are also included in this stage.
- Midstream is the part of the oil industry where the product is stored and transported from the well to the refinery. Pipelines, tanker trucks and railways are all used as transportation methods in this phase.
- Downstream companies take on the task of refining crude oil and selling it. This means that these are the brands that are in closest contact with the public.
While drilling and exploration companies can be separate entities from those involved in the later phases, it is often the case that a large oil company will have different divisions for the upstream, midstream and downstream work.
In other cases, drilling companies and well-servicing firms contract their services to the companies who carry out the exploration and production phases of the industry.
Tip: An ‘integrated’ oil company is one that engages in the upstream, midstream, and downstream aspects of the oil industry.
What moves crude oil prices?
Like all commodities, the price of crude oil is based on the levels of supply and demand around the world.
If there is too much oil entering the market or the level of demand drops for any reason, traders will feel encouraged to sell crude oil investment on the market.
On the other hand, if demand rises and the production levels remain flat or drop then traders will tend to bid crude oil higher.
Various other factors affect the price of oil. These include world events, political decisions, macroeconomic trends, and even rumours or speculation. That is why investors pay close attention to the latest oil price news.
Tip: A look at the eToro oil price chart shows how the price can vary widely over a relatively short period of time.
Oil market Investment options
Oil investing can be done using direct and indirect methods, which are in turn broken down into a few different options.
Direct investing in oil
One of the most straightforward ways of investing in the oil sector is to buy stocks. This allows you to focus on different areas of the oil production process including exploration, drilling and extraction, refining and transportation, or providing ancillary services.
The strength of the correlation between the price of crude, and each oil company’s stock price, will vary. And on a single-stock basis, that correlation will change over time.
Tip: Stocks of large, well-established, oil companies are often included in portfolios applying dividend investment strategies.
Derivatives markets
The majority of oil trading occurs in the derivatives markets, using the likes of crude oil futures, CFDs and options contracts.
Tip: By looking at the eToro oil page you can see the latest news and statistics, together with the latest prices and trends.
- Oil futures contracts
Oil futures contracts are agreements where two parties you commit to buying or selling a set amount of barrels of oil, at a specified price, on a certain future date.
- Exchange-traded funds (ETFs)
Exchange-traded funds (ETFs) also offer a direct method of investing in the oil industry. These oil ETFs are traded on stock exchanges, so you buy and sell them in the same way as shares.
With the example of the U.S. Oil Fund, we can see that a single share gives you exposure to approximately one barrel of oil. A crude oil ETF can be based purely on assets from the oil sector or include other commodities.
Indirect investing in oil
A different approach would see you investing indirectly in oil in any of the following ways rather than directly purchasing crude oil stock or funds.
- Energy sector ETFs
These funds include different elements of the overall energy sector, so it could include a crude oil element alongside natural gas, renewable energy companies and other parts.
- Mutual funds
In this case, you can opt to join mutual funds that invest in energy-related stocks, such as oil company shares. Examples include SPDR S&P Oil & Gas Exploration & Prod, Energy Select Sector SPDR and VanEck Vectors Oil Service ETF.
- Smart Portfolios
The eToro list of portfolios related to the oil industry gives you a range of options that can be used to find the exact investment you are after, while the general portfolios page gives a wider range.
Oil benchmarks: Brent Oil vs. West Texas Intermediate (WTI)
You will notice that there is more than one benchmark used to track the price of crude oil. The two main benchmarks you will come across are the Brent and West Texas Intermediate.
Brent Oil
Brent oil prices relate to oil drilled in the North Sea region. Over half of the world’s crude oil is priced according to the Brent oil crude price which is one of the reasons the Brent index is considered a more accurate reflection of oil prices in general.
West Texas Intermediate (WTI)
The West Texas Intermediate (WTI) oil price relates to oil sourced in the US. Either of the Brent or WTI benchmarks can be used for investing purposes provided that you are clear about which one is being used.
Tip: Brent oil is typically regarded as a higher grade of oil, so often commands a higher price than WTI.
| Brent Oil | West Texas Intermediate |
|---|---|
| Drilled in the North Sea region | Extracted from landlocked areas of the US |
| Transported by sea | Transported by railway and pipelines |
| Benchmark used worldwide | Benchmark only used in North America |
Benefits & risks associated with investing in oil
Like all investment types, there are benefits and risks associated with investing in oil prices.
Benefits
If we start by looking at the benefits of investing in oil and gas, we can see that:
- It is widely regarded as being an attractive sector for day traders as well as long-term investors.
- High trade volumes make the oil markets highly liquid.
- Stocks of oil and gas companies often pay regular dividends to their shareholders.
- Building exposure to oil and other commodities can be one way to diversify your portfolio.
- In some countries, oil industry investors also receive some tax benefits.
Drawbacks
There are also drawbacks to investing in oil, some based on unique facets of the industry.
- Oil stock price volatility can be a concern. The valuations of oil stocks are influenced by the price of crude oil, which is a market known for being relatively volatile.
- Oil companies may also be more exposed to legal and regulatory risk factors and the risk of a major incident, such as an oil spill, has to be taken into account.
- Geopolitical events which impact the oil supply chain and oil prices are hard to predict.
- The move to alternative energy sources raises questions about the long-term viability of the oil industry.
- Suitable for short-term and long-term investors
- Highly liquid market
- Possibility to get dividends
- Overall profitability for long term investment
- High volatility
- Legal and regulatory risk factors
- Risk of a major incident
Conclusion
There are a variety of ways to start trading oil and some of the instruments and markets on offer aren’t as volatile as the core crude oil commodity market. That leaves room for all kinds of strategies to be applied, but there is a need to understand what you are trading before you start out.
Visit the eToro Academy to learn more about investing in commodities.
FAQs
- What is the spot price of oil?
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The spot price of oil reflects the cost of buying or selling oil immediately (on the spot), rather than at a specified future date. The futures price reflects the speculated value of oil in the market at points which are weeks or months in the future.
- What is the best time to trade oil?
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The half hour after an exchange opens, or before it closes, are typically marked by increased trade volumes which improves liquidity conditions. News announcements and data releases from oil companies and governments can also influence the price of oil but occur intermittently. These can be tracked using an economic calendar.
- Which markets set the price of oil?
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The primary market for the trade in Brent oil is the Intercontinental Exchange in London. WTI crude oil prices are based on futures contracts traded on the New York Mercantile Exchange, which is part of the Chicago Mercantile Exchange group.
This information is for educational purposes only and should not be taken as investment advice, personal recommendation, or an offer of, or solicitation to, buy or sell any financial instruments.
This material has been prepared without regard to any particular investment objectives or financial situation and has not been prepared in accordance with the legal and regulatory requirements to promote independent research. Not all of the financial instruments and services referred to are offered by eToro and any references to past performance of a financial instrument, index, or a packaged investment product are not, and should not be taken as, a reliable indicator of future results.
eToro makes no representation and assumes no liability as to the accuracy or completeness of the content of this guide. Make sure you understand the risks involved in trading before committing any capital. Never risk more than you are prepared to lose.