Oil is breaking out. A combination of supply, demand and geopolitical factors has pushed prices for global crude benchmarks to levels last seen more than four years ago.
West Texas Intermediate crude oil—better known as WTI, and the U.S. benchmark—reached as high as $67.45 on Wednesday, while European benchmark Brent crude oil touched $73.09, the loftiest prices since late 2014.
WTI and Brent are up 10.5% and 7.5%, respectively, so far this year. The latest push higher comes as geopolitical tensions heat up.
On Wednesday, President Trump threatened to strike government forces in Syria in retaliation for a chemical attack in that country. That same day, Saudi Arabia said it intercepted missiles headed for its capital and oil-producing regions that were launched by Iran-backed rebels in Yemen.
Supply Deficit Forming
The flare-up in geopolitical worries is taking place just as the oil market is on the verge of moving decisively into deficit, according to the International Energy Agency (IEA).
The IEA forecasts supply growth will fail to keep up with demand growth this year, as cuts to OPEC production offset surging output in the United States.
This cocktail of bullish factors has many analysts forecasting a continued run in oil prices.
WTI at $75 and Brent at $80 are on the table, according to Helima Croft, global head of commodity strategy at RBC. Going further, if the situation in the Middle East escalates into an all-out war, Again Capital’s John Kilduff says prices could reach more than $100.
Tried & True
For investors interested in playing the run-up in crude prices, the natural question is, what’s the best way to do so?
There are the usual suspects. The $2.0 billion United States Oil Fund (USO) provides direct exposure to front-month WTI futures contracts. That’s a strategy that’s done well this year, returning 12.1% year-to-date, even more than spot WTI prices themselves. thanks to a futures curve in backwardation.
Then there’s the $18.7 billion Energy Select Sector SPDR Fund (XLE), the granddaddy of ETFs targeting shares of energy companies. Even though oil prices have surged, XLE has had a rough start to the year, and was at one point one of the worst-performing sector ETFs in the market.
But this week, investors began buying into the energy story, sending XLE to its highest level in about 2 ½ months. The fund is currently down about 1.9% year-to-date.
Oil Producers & Consumers In One
There’s nothing wrong with buying the old, established oil and energy ETFs to get exposure to the space. But ETFs like USO and XLE are far from the only choices investors have. In fact, just in the past year, there have been 10 launches of energy-related ETFs. Here we take a closer look at some of those.
|2/28/2018||NYSE Pickens Oil Response ETF||BOON|
|1/18/2018||iPath Series B Bloomberg Energy Subindex Total Return ETN||JJEB|
|12/13/2017||American Energy Independence ETF||USAI|
|9/15/2017||Credit Suisse AxelaTrader 3x Long Brent Crude Oil ETN||UBRT|
|9/15/2017||Credit Suisse AxelaTrader 3x Inverse Brent Crude Oil ETN||DBRT|
|7/20/2017||United States 3X Oil Fund||USOU|
|7/20/2017||United States 3X Short Oil Fund||USOD|
|6/13/2017||Cushing 30 MLP Index ETN||PPLN|
|06/01/2017||Amplify YieldShares Oil Hedged MLP Income ETF||AMLX|
|4/26/2017||Credit Suisse X-Links Crude Oil Shares Covered Call ETN||USOI|
The newest entrant is the NYSE Pickens Oil Response ETF (BOON), launched in February. BOON attempts to differentiate itself by holding not just shares of traditional energy producers, but stocks of companies from other industries that will benefit from growing energy supply and demand—such as large energy consumers and alternative energy companies.
BOON’s unique twist on the energy sector results in unusual holdings, such as vehicle maker Oshkosh, aluminum manufacturer Alcoa, gold miner Newmont Mining, solar company First Solar and conglomerate General Electric.
The inclusion of companies from both the supply and demand side of the oil market may result in a smoother ride for investors when compared with other energy ETFs, according to the issuer. BOON is up 5% since launching on Feb. 28.
Energy Futures Basket
Along with BOON, the only other energy product to launch in 2018 is the iPath Series B Bloomberg Energy Subindex Total Return ETN (JJEB). The ETN tracks an index of futures contracts on five energy commodities: natural gas, Brent, WTI, gasoline and diesel.
JJEB’s unique feature is that it holds futures contracts with two or three months until expiration, slightly longer than the typical front-month-tracking products.
In addition to JJEB, there are five futures-tracking ETPs that launched in the past 12 months, all of them focused on oil. Four of those are triple-leveraged products: the AxelaTrader 3x Long Brent Crude Oil ETN (UBRT), the AxelaTrader 3x Inverse Brent Crude Oil ETN (DBRT), the United States 3x Oil Fund (USOU) and the United States 3x Short Oil Fund (USOD).
YTD Returns For XLE, USO
A plethora of 3x crude oil ETPs launched in 2017 as issuers scrambled to fill the void left by the unexpected delisting of two blockbuster VelocityShares oil ETNs in December 2016.
As their names suggest, UBRT and DBRT provide geared exposure to Brent crude oil futures, while USOU and USOD provide the same exposure to WTI futures. USOU is up 36% for the years, just about what its inverse counterpart is down. When you time movements in oil prices just right, returns in these 3x products can be phenomenal. But the opposite holds true when you get it wrong.
These products are only appropriate for the most aggressive traders who can stomach large swings and huge potential losses.
Employing A Covered-Call Strategy
Another crude-tracking product that launched almost exactly a year ago is the Credit Suisse X-Links Crude Oil Shares Covered Call ETN (USOI). This product uses a covered-call strategy on the aforementioned USO—an ETF that tracks oil futures.
The ETN essentially provides the returns of a rolling front-month crude oil futures strategy plus the premium received from selling 6% out-of-the-money calls each month.
The sales of the calls provide extra returns each month, but investors lose out on upside if oil rallies above the strike price of the calls.
The third group of energy ETFs to launch in the past year is tied to energy infrastructure companies, including MLPs.
The American Energy Independence ETF (USAI) is the latest. It holds shares of pipeline companies, storage operators and others. Unlike many infrastructure ETFs, USAI caps its holdings of tax-advantaged MLPs at 25% to remain compliant as a regulated investment company. To remain below this threshold, the fund stretches into U.S. and Canadian energy infrastructure firms structured as corporations.
That gives the fund a different flavor than the typical midstream ETF. The top holding is currently Cheniere Energy, a producer and exporter of liquefied natural gas.
You won’t find Cheniere in the holdings for the J.P. Morgan Cushing 30 MLP Index ETN (PPLN), another midstream energy ETF that launched in the past year. PPLN exclusively holds MLPs—30 of them, all weighted equally.