Why Trading Oil With ETFs Is Better and Easier

August 14, 2009 at 2:00 pm by Tom Lydon

The wild price swings in oil and its related exchange traded funds (ETFs) has many investors going to sleep at night having dreams about being a speculator and making mounds of money. But what does it really take to be one?

Trading oil futures is not like trading stocks or bonds, and generally requires experience and expertise. Ari J. Officer of Time Magazine outlines three things that are needed to be an oil speculator:

You need money. The New York Mercantile Exchange requires a minimum of $10,000 in a margin account as collateral, unless one is a member of the exchange. Why this magic number? Aa single contract of crude holds 1,000 barrels, so a $10 price movement can either add or subtract $10,000 from one’s account.

You need to find a broker and clearinghouse to connect you with the markets to trade, as well as to act as insurance to the exchange that you will cover anything you lose.

You need a monitor that operates 24/7 to track the oil markets. Keep in mind, that you’re not trading the physical oil, you’re trading a contract obligation to either buy or sell it at a specified delivery date in the future.

Boy, oh, boy. It should be apparent by now that ETFs simplify this process a great deal. There’s no need for minimums, monitors and it’s far cheaper to access the oil market via an ETF. It’s so simple, in fact, that it’s what has led the Commodity Futures Trading Commission (CFTC) to consider regulations and limitations in order to prevent speculators from driving prices up and down.

The providers of these funds have spoken out in defense of them, saying that the claims that they were driving prices “self-serving statistical gibberish.” United States Commodity Funds Chief Investment Officer John Hyland says that such caps imposed by the government would ultimately lower the liquidity his funds deliver to the futures markets, because the existing funds would need to be broken off into smaller funds.