The recent past has been quite harsh on the oil industry. Oil prices have continued to be persistently weak, and a huge number of oil and gas producers have been forced into bankruptcy. So many have wondered whether they should invest in oil wells, or the risk is too high.
Meanwhile, those that have survived have cut costs to the minimum. However, prices seemed to have reached rock bottom in recent years. Specialists expect that prices should be quite stable in coming years. Besides that, there has been a noticeable improvement in the efficiency associated with oil production. This article will examine why it may be the best time to invest in oil wells.
Oil Industry Details and Overview
When you fill up your gas tank, you are the final link in a long chain of events. The entire process can be divided into upstream, downstream, and the midstream sections.
- The upstream is the part of the industry that is responsible for finding the oil and gas fields. You may also know it as the production and exploration sector. Most upstream businesses are near the oil fields. This allows them to keep a close eye on the situation on the ground.
- The midstream is responsible for the storage, marketing, and transportation of oil and gas commodities. The midstream provides the vital link between the oil producing remote areas to the population centers where the oil is necessary. Most of these companies have their headquarters all around the world where their services are needed.
- The downstream includes oil refineries and petrochemical plants. It also features retail outlets and gas distribution companies. In most cases, if you want to invest in oil wells, you want to know how players downstream are performing. The downstream industry covers any place in the world where oil and gas products are consumed. They include fertilizer plants, tire producers, pesticide makers, and many others.
How to Invest in Oil Wells Explained
If you plan to invest in oil wells, you can approach the oil and gas industry in various ways. You may think of the industry as a collection of companies that provide products and services to consumers. But you can also think of it as a commodity and try to profit from a change in the price of the products it generates. Here are a few ways to invest in oil wells:
- Mutual Funds: If you know of a mutual fund that focuses on the oil and gas industry, you can buy shares in it. You will gain substantial exposure to the commodity without being affected by the commodity spot prices. Besides that, your fortunes will not tie to the success or failure to the prospects of any company.
- Large Cap Stock: These are a great way to gain exposure to oil. You can invest in publicly traded companies such as Exxon-Mobile. Additionally, you can buy stock in other companies such as PetroChina and Chevron. Each of these companies engages in oil exploration activity. By buying shares, you get direct exposure to their activities.
- Future Contracts: Future contracts based on oil and gas are another way to invest in oil wells. However, they can turn into risky investments. They often expire without any worth.
- Small and Micro-Cap Stock: If you want to take a greater direct equity position in small companies, you should go further down the food chain. Small and micro cap stocks that focus on the oil and gas industry are a great way to do this. This is a more specialized type of exposure. If the firm is not traded publicly, you have to engage the services of a stockbroker. If you are planning to invest a significant amount, you can deal with the management directly.
Should I Invest in Oil Wells? PROs and CONs
If you plan to grow your wealth, you should try to invest in oil wells. Like any other investment, there are pros and cons in this field also. Here is a careful breakdown of the pros and cons.
- The profit margins skyrocket when the well-exploration hits a huge oil reserve. In fact, the immediate return on investment can be as much as five times the initial capital.
- The well pays off, and a good well can last for many years. Most oil reserves start to gain a profit after about three months after the initial discovery.
- With a diverse portfolio of investments that include oil, you will have a balance if the stocks fall. The reason for this is that oil prices and the rest of the stock market are indirectly proportional to each other.
- There is also a tax advantage when you invest in oil wells. It is especially so if you invest in a limited partnership. Other options that are now in wide discussion are to invest in silver, in the widely known company SpaceX, or even to invest in virtual reality.
- Around 15% of the income is tax sheltered. When the stock drops because of depleted reserves, private investors accrue allowances and are able to control cash flow.
- There is also the benefit called Intangible Drilling Costs. This entails a percentage of the first year’s income being written off to cover incidental costs.
- Despite the sizable and fast returns on investment and many tax benefits, investing in oil has its risks. For one, the price of oil is always in flux. The chances of making a profit depend on local and external factors that are hard to control.
- The percentage of loss may vary. However, it is not unheard of to lose 100% of the initial investment. This mainly occurs during dry hole drilling.
- When you buy into a limited partnership with better gains, you will also have to pay commissions. These are quite high in comparison with paying fees to a stockbroker.
- Besides that, when you invest in a small company, your shares will be less liquid than investing in a large company. Your income will also need maintenance and operation costs such as production expenses.
Typically, investing in oil wells can be a great way to grow wealth. However, you will need to wary of the risks and the frauds. Being scammed is quite common in the oil and gas industry. Many companies have been known to trick investors into investing their money in redundant oil wells.
Did you invest in oil wells? How did it go? Share your experience with us in the comments section below! You can also recommend this article to an investor who might not be sure of what to do.
The images are from pixabay.com.