The United States Oil Fund (NYSEArca: USO), which tracks West Texas Intermediate crude oil futures, got a big boost yesterday when it surged 6.3% after the Federal Reserve once again declined to raise interest rates.
Despite oil’s recent upside, the long oil trade as attracted plenty of naysayers. However, there are reasons for investors to be cautious with volatile energy ETFs. Moreover, if oil prices falls to new lows and the shale industry is unable to turn a profit, the highly leveraged industry may find it harder to repay debt obligations.
Organization of Petroleum Exporting Countries (OPEC) member states and other international oil-producing nations are not doing the commodity any favors by refusing to trim to production, which could provide some relief to prices. In turn, plenty of market observers have doubts that oil’s recent upside can be a lasting theme. [Oil Rally Faces Headwinds]
According to Phillip Streible of RJO Futures, crude oil is on its way to breaking below the $40 level to $38 a barrel. That would be another 12 percent drop from where crude oil settled Tuesday, reports CNBC.
“This bear market is starting to accelerate,” he said Tuesday on the network. “Oil prices are going to go the path of least resistance and that looks to be lower right now.”
USO has been somewhat steady following a sharp reversal last month that forced a spate of short covering. A short position is a sale on a borrowed security. The investor needs to eventually return the borrowed stock by purchasing it back from the open market. If the price falls, the investor buys it back for less than he or she sold it for and pockets the profit. [Widening Contango Could Cut Into Popular Oil ETF’s Returns]
However, there are reasons for investors to be cautious with volatile energy ETFs. Moreover, if oil prices falls to new lows and the shale industry is unable to turn a profit, the highly leveraged industry may find it harder to repay debt obligations.
With the U.S. dollar strengthening and the Federal Reserve looking at tightening its monetary policy, the various U.S. market sectors and related exchange traded funds could behave differently in a strong USD environment.
The Trade Weighted U.S. Dollar Index has increased 15% over the past year and is at its highest level in over 10 years, writes Karen Wallace for Morningstar. Energy ETFs can prove particularly vulnerable in the face of a stronger greenback.
United States Oil Fund
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.