(By: Mr. Anuj Gupta, DVP- Commodities and Currencies Research, Angel Broking Ltd)
Crude oil can be considered a trade diversification option for investors, as it is a profitable commodity and carries the tag of being a global index, making it an attractive avenue. Being an import-dependent commodity that is traded daily, market watchers suggest that it performs well under all given market conditions.
Crude oil is traded on indices across the world with good profit margins due to frenzied everyday market activity and high-volume in daily trade from the comfort of your desk. Once the commodity’s price variations and trends are understood, crude oil stocks could provide significant ROI. Be it short-term trades or long term strategies, the full array of options can be beneficial to the investor.
Understanding essentials to get you started
Price fluctuations often occur when crude production and supply face challenges, resulting in unintended domestic consequences in different parts of the world. Countries, therefore, try to calibrate their taxation and fuel policies according to their crude import bills. This stands true also for crude dependent companies, which mark services and product pricing accordingly.
West Texas Intermediate (WTI) crude and Brent crude are two standards the commodity is traded through, both of which have variations in weight, sulfur composition, locations of extraction, and other characteristics.
In the Indian context, Brent crude is the commodity that is usually traded on the Multi Commodity Exchange of India Pvt. Ltd. (MCX) or National Commodity & Derivatives Exchange (NCDEX). For a retail investor, commodity oil futures is the term used to describe crude oil stock purchases, and it is largely speculative and traded in high volumes by oil companies like Indian Oil Corporation, ONGC, etc. Crude oil is one of the most dynamic markets due to global energy use, and investors must be cognizant about the size of transactions taking place every day.
Situations that affect demand, supply, and prices.
Crude oil MCX futures contracts trade over INR 3000 crores every day on an average, in batches of 100 barrels usually and 10 barrels. While it may require small investments with promising returns, they could be highly unpredictable and often need expert guidance.
Since crude is a future trade commodity, investors have to be aware of the expiration date for the contract every month, usually the 19th or 20th every month. Repositioning themselves before the final date to square up their portfolio positions becomes a necessity.
Additionally, catastrophes such as the shutdown of oil fields and production units due to natural calamities and health crises either create shortages or oversupply the commodity. In this regard, the current COVID-19 pandemic had stalled demand due to the ensuing lockdown, which fell prices for a significant period. With no airplane traffic across the world and major import nations going into lockdowns, fuel consumption had hit an all-time low. For example, by April 20th, 2020, WTI crude had recorded a lifetime low of -40$/barrel due to undersold crude and supply excesses, crowding the market with unpurchased stock. However, WTI as of August 2020 is at +42$/barrel, recording an increase of 200%. These developments are a consequence of demand and supply, wherein the post-lockdown recovery influenced an increase. If invested the right way, it shows that within 4 months, even a retail investor can get 200% in profits, just by being vigilant in the demand and supply game.
Additionally, if the Middle-East goes into conflicts like in the case of Iran’s alleged drone attack on a Saudi Arabian oil field or the US-China trade confrontation, could result in the prices increasing as the risks increase. If China were to purchase US crude due to the US’s hardline position, the chances of an amicable negotiation increase, impacting crude oil prices once again. It is prudent for Indian investors to keep an eye on global developments, to hatch out strategies through the assistance of experts at brokerage firms, especially when investing in fluctuating crude oil stocks.
As a hedging strategy by oil companies and the Indian reality
Crude trade is like the mirror image of the global economy and energy trade. Aviation companies, oil companies, refineries, etc. often hedge their bets based on the occurrences around the world, their storage capacities at the domestic level, and a low price advantage of crude stocks.
If they believe that there could be an increase in crude prices, they make purchases on the market as a hedging strategy. If they are incapacitated by momentary space constraints, buying out oil futures helps. When the price increases, additional resources need not be spent, thereby mitigating risks.
Aviation companies like Indigo, SpiceJet, Air India, etc. are net users of crude oil through the requisite aviation turbine fuel. Their risk mitigation strategy is useful for individual investors, as they track the commodity movement by piggybacking on Oil companies’ and Aviation companies’ trends for oil futures.
Being the largest commodity in terms of market size when compared to gold or silver, Crude oil price movement is a given. India, China, and several other Asiatic countries being net importers, they often keep oil futures going. With continuous movement comes better chances of profitability. Moreover, vested interests all over the world would want to see the crude trade be up and running without any hurdles, as it is a single source of revenue for many countries in the Middle-East. As long as there are countries that need to import crude, there is movement in prices and the commodity and that is favorable for the economy. For Indian investors, it is a good alternative to hedge, considering that 80% of our consumption is through imported crude.
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