WATCH THIS BEFORE INVESTING IN OIL STOCKS!! (USO, USL) | How Oil ETFs Work | Investing, Dividends

Hey guys, welcome back to Mad Money, welcome back to another episode, today we're going to talk about oil again and for those of you who know or don't know, I'm a petroleum engineer by training. I currently live in Trinidad and Tobago, so my life is oil and gas currently, it's more gas than oil, but I currently live and breathe oil and gas production right now. I don't really trade oil and gas in terms of having to deal with

this

kind of stuff that we're going to talk about today, but I help produce and sometimes I help provide the forecasts that go into our own company, having to then negotiate and figure out how They supply and supply the other refineries or gas trains with the gas they need to sell these types of contracts, so I have a little bit of knowledge about that, but of course I'm not an expert in, say, futures trading, but really what I wanted to address is the risks associated if they were what you should know when you buy some of these funds.

Now what we're going to look at quickly is the USCF or the US commodity funds, the US oil fund that they've created and so a lot of people like

this

one, a lot of people buys. and I'm not saying whether you accept this or not, but I think that when a lot of people automatically rush towards these types of funds, they may not necessarily understand what exactly is going on, so I want to touch on that topic. in this video today and I explain that, so what I basically want to see is when you trade something like USO or the US oil fund, you can see it goes up down and sideways and I want to dig a little deeper into that. . because generally speaking it's not one for one, if the price of a barrel of oil goes up one percent, you don't necessarily see the USO go up one percent, which is kind of interesting, so I want to explain why it is so now that we're at the end of April, we're actually starting to trade June futures and for those of you who know it or not, basically the futures are a month ahead and they actually start trading basically a month ahead. anticipation, a couple. days, so in this case we just finished the May future contract, so basically everyone is going to start trying to receive their May production at the end of April, so the books for May have already been closed because basically in the next week or two we're going to start in May, so what that means is that we're now starting to negotiate for June, which means that throughout the rest of April and basically in mid-May we're going to try to provide oil production that then it will go. to refineries and things like that and that's basically what they're trying to do in trading, so from now until about May 19th, which we'll get into a little bit more into that a little bit later, we'll be trading June futures, now what is that actually.

Which means that companies like the American Oil Fund and other commodity traders are trading these futures, you basically know that some of them are actually buying them to help offset and find a price for oil and gas, so they may have physical oil and gas that they're saying, hey, we need to find someone to buy this and they'll actually send deliveries to whoever buys it, whoever has that kind of future on the expiration date, which in this case was the Monday Tuesday around this week and that's why I saw negative oil prices, but we'll get into that and a good minute here, but what you can see here is in this number, my a or it may not mean anything to you, which It will also be immersed in fifty-three thousand five hundred quantities. of, say, June 2020 futures, so what does that mean?

Each contract or each quantity here is considered a thousand barrels of oil. If I wanted to multiply this, I would basically say fifty-three million barrels of oil and what they have here. They have it priced at about 13.7 t8 cents, so right now in June 2020, they have their futures contracts at about thirteen dollars and seventy-eight cents, so the only way this fund American oilman can make money is now that they have this. amount of, say, June 2020 contracts, which is what is currently being traded, the only way they can make money is basically if the future price or the current price of the spot price goes up and up, say, by 5 % 10% in June, that will help increase this. value of this particular contract, but consider the contracts for, say, July or August or July on, say, the London Stock Exchange, all of these different.

I assume futures are all traded at once and also traded correctly. here you also have July and August so if we say the June price goes up by 5% it doesn't necessarily mean that the July price or the August price will also go up by 5% and you can see here that they have a lot of July contracts as well. , actually, they're almost twice as much as any of the others here, so specifically, if you were to look at their July contracts and totals, they have the Chicago stock here, which is about 1.8 billion dollars, so they also have the La London Stock Exchange has about a hundred million dollars so they have almost two billion dollars in contracts for July specifically so that means you know there's a financial institution that basically holds these books and trades them so yeah everything goes up, let's say a hundred percent in the June contract and it doesn't necessarily move for the July contract, the actual spot price will move a hundred percent, but US oil might only move 50 percent or 20 percent. cent, very depending on how many contracts they have and what the book value is right now, one of the key things I want to show here is to highlight the price of crude oil and give you an idea and we can turn and play from time to time , which is exactly what we want to look at, but particularly what I want to highlight here is that this June 2014 is the time frame, so June is 2014, we're spinning around a hundred dollars a barrel, let's say it's $104 a barrel and then basically. four years later, four years and three months later, we're trading around $71, so yeah, we saw this big deep drop here over the course of a long time, we basically went down about 70% off the peak oil price and then we rallied back within about 25% of this high on the 20th period of 2014, then if you go to USO and do the same thing, look at the same time period around June 2014, the fund was worth about $39 per stock, it kind of goes down the same pivot point that you see that 70 percent drop because it happened pretty abruptly and then you would anticipate that you would get back to this 70% of this $37, but you actually don't get even half of that point, so Keep in mind that from 2014 to 2018 the crude oil price recovered from 25% of the all-time highs in 2014, but here we are seeing that we are not even recovering close to 25% of what we saw in 2014 if we go .

From June to January, June 2018 to June 2014, respectively, you're still down 60%, so it doesn't necessarily make sense. So why is it correct? The reason is that, because you are trading futures, you are not trading physical crude oil. oil, you know what I mean, you're trading the financial instruments that are going to be happening and basically what I'm trying to say is that when you have these types of financial institutions trying to buy these contracts, they really can't. store some of the oil and therefore what someone might do if, for example, they are an oil storage company or an oil and gas company, they might have storage capacity at some of their facilities and therefore , you could say, well, we can store up to 1.5 million barrels and we can sell $15,000 or 15 contra or 1,500 contracts associated with that or maybe it's 1.5 100,500 contracts, let's say, and then what you could do is hold them for a week two weeks three weeks until the next trading month comes around and hopefully the price of oil will continue to rise so whatever ends up happening here is, no matter what comes to the end of the month, basically the bottom You're going to have to sell it because they can't necessarily hold it and store it, so what ended up happening on Monday and Tuesday, which everyone was familiar with what ended up happening, if I say the last five days again, what ended up happening. is the negative price of oil, everyone is very familiar with that and a lot of it had to do with the fact that all these futures funds had all these contracts on the books but they couldn't actively and physically store this crude oil and So immediately what you would see is that the contracts were ending, these funds couldn't hold the May contracts because obviously they can't take money and of course as oil continued to fall to go up, they didn't want to go up. sell it yet, but it got to the point where the end of the month came and they had to sell it because they physically can't let it expire with it on the books because they physically can't receive it because I don't have storage space, etc.

That's the kind of reason why you could be losing potential money on some of these things and not even necessarily realize it. That's why as time goes by you will see that the price of oil can increase and at the same time your USO or your USL fund does not necessarily increase at the same rate now what I would like to say is specifically if we were to look intraday within a day a week, it matches up pretty much, but where it really starts to hinder things is when you really start to get to the end of these kind of trading months, so in the case of, say, April, we were seeing that the trading month it ended three days before the 25th of the month, so one, two, three basically ended on Tuesday here.

So yesterday, that's 24, in the case of next May, we're looking at year 25, three business days ahead of one, two, three, so we basically started trading July contracts at the end, at the beginning, here, at end of May, so that basically means that June contracts basically close and the nineteenth of the next month and so on, I mean you do the same thing with June, so June one two three, that means that on the nineteenth of June the books They will close by July. contracts and once the 22nd rolls around we will be trading August and so it will continue to roll and these funds are here to try to make money on futures now if you have a continued downward spiral. one, you'll have to pay a premium to buy these futures contracts and then two, you'll be losing money so it's almost like a double whammy and I think that's part of the reason why when you look at the USO Long term, you haven't necessarily made a lot of money.

Keep in mind that in 2008, this thing was trading oil at about 120 a hundred and forty dollars a barrel, it was trading at about a hundred and seventeen a share, so if you think about it now. which we're at $14, so about a tenth of that we should only have lost, let's say we should only have lost ninety percent, but here we are and we've lost ninety-seven percent from that point and to hold another point up in 2008 we were trading approximately 140,000 a barrel in 2014, with a return of 100 dollars a barrel and still lost sixty-seven percent even though the price of oil was only down forty percent compared to that period from 2008 to 2014, so it shows that not only when you buy these funds are we paying the premium of buying futures, but that's how you can actually make money with these things, let's say now, so let's keep in mind that when we go back and we look specifically at USO for example, they have these June Contracts, July contracts and August contracts on the books, now they have bought them at, say, 1878 $23 for August $20 for July, so if we were to say a big change in the price of oil, say 10 15 percent overnight, yes you can. you will surely get a good chunk of that so I say you will immediately earn 10-15% because the spot price increases immediately, I don't know and it all depends on whether it is just the first month's price that has increased or Is it the June, July and August spot prices that have gone up and that is a great indicator of whether you are actually going to make money or not?

So I know this was a really interesting explanation and probably a little bit jumping around between different things, but I really hope you're doing well and I really hope that gives you a little bit of an explanation about when you're

investing

in these US oil funds, no. It is necessarily this tracker that you are seeing and what In fact, what we are seeing here is going to be the right change, immediately, if we were to say that go from $14 a barrel and in the next year go back up steadily with the time at $60 a barrel, so you would basically increase this four times from where we are today and it took the course of a year, you won't see a 400% return, you'll see a decent return for sure, butIt really all depends on if that happens overnight, if we go from $14 to $60 a barrel overnight.

You're going to see a lot more money because you're not paying futures contract premiums for having to trade these contracts and you're also not seeing some of the Co Tango that you're having just by holding some of these. contracts on your books or in this case on our books, but if it were to happen between now and say the 2021 period, you'll see a lot less, so you'll see a hundred percent two. One hundred percent, I don't know, but I remember again that even though we reached 25% of the all-time highs between 2014 and 2018, we were still here below 64 on the USO, basically saying you know we were You're not winning money, you know you would have.

You made money if you bought back here in this period of 2016 and went up, you would have gone up 80 percent, but keep in mind that the price of oil here was $28 a barrel in 2016 and basically It went from $28 a barrel to 3x, right? I mean it went from 28 to 54 to 276 or something so basically tripled the price but you're only seeing an 80% return so I hope that helps you and gives you an explanation as to what happens when I'm

investing

in some of these funds, what I would suggest is just limit your exposure, limit your risk, in my opinion I'll probably stay away from investing in something like USO USL or any other type of oil fund and that's basically me.

I would prefer to invest in the companies themselves. I prefer to look at companies with great balance sheets, great cash flow and that are preparing for the future, either by transitioning to greener energy or just making sure they continue. to align their margins, but that's another story for a different day. If you're interested in hearing my future takeaway or presenting my perspective on oil and gas, I'd be happy to provide that, but thanks for rambling on a bit. Kinda, I hope this rant was good for you and if you liked it, give it a thumbs up and I'll talk to you in the next video.

Greetings.