Both stocks and crude oil rose again Monday, though evidence is scant that stock bullishness is tied to optimism about the end of the oil glut. Crude oil remains a risky and volatile market for traders big and small. As millennials look to extremely risky oil ETFs to try and profit, it’s worth looking at limited risk ways to trade crude oil.
By Vikram Rangala
Monday, February 22, 2016
With oil revenues down, the sovereign wealth funds of many oil-producing countries are expected to sell over $400 billion in stock on global markets this year. Those funds were created during times when oil revenues brought huge surpluses of cash to countries in the oil-rich Persian Gulf region as well as Russia and Norway.
With oil prices now hovering around $30 a barrel and the IEA forecasting the glut to continue through 2017, those countries now find themselves running short of cash and needing to sell some of their $3 trillion in equity holdings (as of the end of 2015) to raise funds. Those funds were diversified and included commodities like oil itself, as well as shares of blue-chip companies, not to mention assets like luxury homes and hotels and FIFA soccer teams. With oil in a slump, stocks are now their most saleable asset as well as the best performing part of their portfolio now that equities are rallying again.
Except, of course, shares of energy companies, which continue to struggle. Shale oil drillers in North America, for example, are just one multi-dollar drop in crude prices away from insolvency. The latest reports show the US rig count down after continued expansion in 2015. Production of shale oil is also down. While the IEA still expects US shale production to rebound in 2017, these developments must have the Saudis feeling that their strategy of driving down costs to drive out shale oil competition is working.
Another sector feeling the effects of the oil slump and uncertainty is finance. Financial stocks are in a slump for several reasons related to larger concerns about the global economy as well as worries about interest rates. One of the riskiest exposures of many large financial firms is energy-industry debt. Big banks have loaned a lot of money to shale oil drillers who now are unable to make their payments and look very close to going bankrupt. If that happens, those banks face even more trouble.
So if oil is risky business for big banks and the sovereign wealth funds of oil producers themselves, it ought to have individuals with small investment accounts, especially young people, scared to touch it, right? It turns out that of the top 10 stocks traded in 2015 by millennials, number five was the VelocityShares Daily 3x Long Crude ETN (UWTI), which Bloombergdescribes as “arguably the most dangerous ETF on planet Earth.”
UWTI is not only a highly leveraged ETF, meaning that small drops in crude oil prices get multiplied in the losses of the fund shares, it is also an “exchange-traded note,” a kind of unsecured debt obligation which adds credit risk on top of market risk. And to make it even more of a bad bet, it continually switches to the newest front-month oil futures contract, incurring roll costs at every repurchase.
You get all the fun of an over-leveraged investment, combined with the security of a really shady junk bond, wrapped up in needless fees. Even the brokers selling the ETF don’t quite know why millennials are drawn to UWTI, when the other to 10 stocks were things like Apple, Facebook, and Tesla.
We don’t often use Nadex market commentary to plug Nadex binary options and spreads, but today I just have to point out that there is a limited-risk, low cost way to trade crude oil futures prices. You won’t lose more than your initial investment, you are trading on a regulated US exchange, and you will never get a margin call.
And if it’s the 3x leverage that makes a risky ETF like VelocityShares attractive to you, consider that you can buy or sell a binary option for $20 or less, with the potential to exit with a $60 or $80 (minus a $1.80 fee) profit. The most you could lose is that $20 plus a 90 cent fee. That’s better than 3X profit potential. Of course, you don’t get to brag about trading the world’s most dangerous ETF.
You just get a limited risk way to trade even one of the most risky markets. In a time like now, that’s exactly what many of us need.
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