Instead of taking direct exposure in the oil commodity on hopes of a rebound in prices, some investors may be turning to indirect investments, like exchange traded funds that track oil-producing countries and energy companies.
Traders may try to ride a rebound in energy prices through West Texas Intermediate crude oil futures and commodity-related ETF, the U.S. Oil Fund (NYSEArca: USO). However, people will be exposed to contango in the underlying futures market.
Oil traders should be aware that USO tracks front-month WTI future contracts and the underlying oil market is currently in a state of contango. Consequently, USO could experience a negative roll yield when rolling a maturing futures contract, or selling a contract that is about to expire in exchange for the next month contract. [Positioning for an Oil ETF Rebound? Watch For Contango.]
Contango occurs when the price on a futures contract is higher than the expected future spot price, which creates the upward sloping curve on future commodity prices over time. Essentially, the phenomenon reflects a current spot price that is lower than the futures price. For instance, according to the CME Group, WTI futures were trading around $37.7 per barrel Wednesday for February 2016 delivery, but contracts with a later delivery are trading higher, with contracts for February 2017 delivery at $43.7 per barrel.
Alternatively, traders have turned to other wagers as a proxy for oil, reports Ira Iosebashvili for the Wall Street Journal.
For instance, oil producing countries like Russia, Nigeria and Norway have exhibited correlation to changes in oil prices. The Market Vectors Russia ETF (NYSEArca: RSX) includes a 37.6% tilt toward the energy sector. The Global X Nigeria Index ETF (NYSArca: NGE) has 9.5% in energy. The iShares MSCI Norway Capped ETF (BATS: ENOR) includes a 28.2% weight in energy.
Large, integrated oil companies, along with sector-related ETFs, like the Energy Select Sector SPDR (NYSEArca: XLE), have also been a popular way to play a rebound in oil prices. [Energy Sector ETF Seducing Contrarians]
Furthermore, energy infrastructure or master limited partnerships, such as the JPMorgan Alerian MLP Index ETN (NYSEArca: AMJ) and Alerian MLP ETF (NYSEArca: AMLP), are also bouncing higher on rising oil prices. [MLP ETPs Surge as Bargain Hunters Jump In]
Simply betting on the price of a commodity “is not a thing anymore,” Michael Haigh, global head of commodities research at Société Générale, told the WSJ. “These days it’s more about going long and short, using more exotic investments.”
Along with futures market contango concerns, some investors expect oil producing countries and companies to bounce back after the heavy selling, jumping on the more attractive valuations in these markets.
Nevertheless, these alternative or proxy bets on oil prices come with their own set of risks as the oil-related countries and companies are exposed to additional factors outside of oil prices.
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Max Chen contributed to this article.