One of the first principles of value investing is to invest in what you know. In case you missed in, Oil prices plunged last week 15% in one day on the news that Osama Bin Laden had been killed. Going from $110 a barrel to $97 a barrel caused some major pain for investors in oil stocks and futures last week. What once looked liked a sure winner is now on precarious grounds, according to Wall Street. But does this say something about how investors approach oil on the stock market? Does anyone still do technical analysis on company fundamentals? Does it even matter?
Experts on oil and gas are quick to project forecasts of long term increases in demand, as if this wasn’t already a known fact based on common sense alone. With a rising global population and growing industrialized and industrializing economies, it should not take another MBA to figure this one out. The overall macroeconomic picture aside, what exactly do investors know about the oil industry? Yes, demand will increase over time, but what else drives the market? For the short answer read fear.
Investing in oil can by like riding the rodeo, you get a good streak going and then you get kicked off the hump. It can be fun and full of excitement, but so can many other activities that are harmful over the long term to your net worth. Take gambling, for instance. Whether you are shorting oil or taking a long term approach in equities, oil is notoriously unpredictably. Yet, the finance talk shows and CNBC business coverage is always brimming with “experts” ready to dole out their predictions on the direction of oil prices. What do they really know about oil? Zero, nil, nada, zilch!
Investors need to get ready for some tough love: the price of oil is speculative. This nugget of wisdom is dispensed virtually all the time, but investors continued to lead their portfolio’s to slaughter by loading up on oil with the expectation of perpetually higher prices. There is nothing “smart” about investing in oil. In fact, there is really not much due diligence that the investor can do to ensure rational decision making and reasonable confidence. Investing in oil does not make any more successful as an investor than playing the penny stock rollercoaster.
But everyone needs “exposure” to energy stocks in the oil sector right? If hedging your bets is what you are concerned with, chances are you already have plenty of exposure through the rest of your portfolio that is related to the use of petroleum. Furthermore, the major indexes are already heavily weighted towards oil. The days of oil determining the direction of the stock market are – to a certain extent – over. During the recent recovery, the market rose in spite of oil’s various fluctuations.
In short, investing in oil is as predictable as tomorrow’s headlines. Why play blackjack for black gold when there are more intelligent value options in the sea?