Buying Oil Investments – Chapter 6: Investment Options

This is chapter number 6 out of 12. Read the rest:

Read Buying Oil Investments – Chapter 1: Introduction
Read Buying Oil Investments – Chapter 2: Getting started in oil investments
Read Buying Oil Investments – Chapter 3: Factors which affect the price of oil
Read Buying Oil Investments – Chapter 4: The determinants of Oil Prices
Read Buying Oil Investments – Chapter 5: Trading in Oil Futures: (The impetus of the market sentiment)

As mentioned earlier, there are different ways with which an investor can foray into the Oil & Gas industry. They can be classified into the categories listed below:

• Leases
• Mineral Rights
• Mutual Funds
• Oil Futures Contracts & Options
• Partnership; Buying production
• Partnership; Working Interest
• Royalty Interests
• Stocks

 

Leases:

They grant the holder of these leases the “right” to drill wells on the property specified on the lease. The owner of these properties will then be paid a royalty for the amount of mineral which have been extracted from the properties. Normally, the terms of the lease include the number of wells that can be drilled within a specific time frame. This is to ensure that the holder of these leases will maximize the duration of the lease for maximum potential returns. In turn the owner of the properties will benefit from the maximum amount of royalties payable. Leases also have the ability to appreciate in value if the property in question proves to be endowed with rich deposits. Nevertheless, as they have an expiration term, they could also expire without any well being drilled. Thus in this manner, leases can be risky.

Mutual Funds:

Mutual funds are funds pooled together as an investment vehicle for specific markets. They are professional managed and usually have detailed forecast about their projected returns. They also represent the investment option with the least risk.

The advantages of mutual funds are that they give the small time investors access to a wide diversity of equities and other financial securities professional expertise with just a small investment into the fund. They are typically sold as units or shares. These units or shares can be bought or sold to redeem their net asset value (NAV).

Oil Futures & Oil Futures Options:

A method of directly owning the crude oil is to purchase oil Futures contracts or oil Futures Options. They are also known as commodity trading as described in chapter 2 of this guide. Trading is this market is highly speculative and thus highly volatile. However, they can also be extremely lucrative if the investor knows what he is doing.

For example, when you compare the annualized returns from 1983 to 2004 between spot trading and Futures trading, Futures trading achieved an average of 15.16% returns whereas spot trading only managed a return of 2.75%. Nevertheless, before deciding to invest in this market, ensure that you do the necessary groundwork studies to evaluate the risks involved.

Partnership; Buying production:

Buying production refers to the concept of purchasing an active interest in a well which has been successfully sunk. Thus the investor will not face any of the risk of investing in a “dry well”. The investors still enjoy the benefit on income generated by the production of oil & gas.

Partnership; Working Interest:

Working interest refers to an ownership stake in the operation of the well. Beside of having production income benefits, investors in this category also have significant tax benefits for the risk of drilling exploratory wells. Other types of investment do not enjoy this tax benefit.

Royalty Interest:

These refer to income received by the mineral rights owner on the property where the oil & gas well have been sunk. In the US, the minerals in the ground belong to the landowner and not the Government. Thus landowners are able to enjoy the benefits of royalty for minerals extracted from their land. Royaltys are normally calculated based on the quantity of the minerals harvested.

Stocks:

This refers to buying shares of a public listed company on the equity market. Investors can select to invest in major established companies or in independent oil service companies.

Read Buying Oil Investments – Chapter 7: Exchange Traded Funds
Read Buying Oil Investments – Chapter 8: The Risks Of Investing In The Oil & Gas Industry
Read Buying Oil Investments – Chapter 9: Advantages Of Investment In The Oil & Gas Industry
Read Buying Oil Investments – Chapter 10: Investments in Gold versus Oil
Read Buying Oil Investments – Chapter 11: Peak Oil
Read Buying Oil Investments – Chapter 12: Conclusion