How To Invest In Oil and Gas: 13 Tips from Experts

It is no exaggeration to suggest that the oil and gas industry plays a crucial role in the global economy and is the primary fuel source in the world. Natural gas exploration and crude oil production and distribution are capital-intensive and complex activities.

Over the years, there has always been a connection between crude oil and natural gas. This is mainly due to the production process and the upstream side of the business.

On February 24, Russia launched an invasion attack on Ukraine. This triggered significant swings in the prices of crude oil and natural gas. Besides this, the ongoing pandemic has become a cause for concern for many investors looking to make oil and gas investments.

This guide to investing in oil and gas will provide an insight into the business and investment opportunities available. It also covers the types of investment companies and the top oil and gas stocks to invest in. So, keep on reading!

How To Invest In Oil and Gas Wells?

If you are interested in investing in oil and gas wells, there are several ways you can go about it. Some of these are discussed as follows:

Oil and Gas Futures Contracts

Oil futures contracts are legal agreements that involve trading a certain number of barrels of crude oil at a preset price on a specific date in the future. Anyone who purchases an oil futures contract does so by making a margin payment, which covers a percentage of the total contract value. This is a speculative trade because crude oil prices may increase or decrease before the purchase date of the contract.

Buying oil futures is an indirect investment option and purchasing a futures contract is easy. You place an order with a broker while specifying important details in the contract, including contract size, expiry months, etc. After this, you pay on margin to the broker, who then executes the trade on the stock exchange.

Buying Mineral Rights

Mineral rights give the holder ownership of the mineral resources present on a piece of land. Without owning the mineral rights, you have no right to explore or exploit the resources beneath the land, even if you own the surface rights.

Buying mineral rights is a direct investment option that can be purchased at auction, through negotiated sales, sealed bids, upstream oil and gas companies, brokers like Pheasant Energy, or directly from mineral rights owners.

Buying Stocks In Oil and Gas Companies

When you purchase stocks in oil and gas businesses, you own a portion of the companies. This indirect investment option can help you make a profit as many oil and gas companies expand operations and grow in size. It is best to buy stocks at low prices and sell them when the crude oil prices or natural gas prices become higher. How do you buy stocks directly in oil and gas companies?

Before purchasing gas or oil stocks, you need to have a brokerage account. You can visit the company’s site, research which oil companies you want to purchase stocks in and how many shares to buy, and then place your order.

ETFs and Mutual Funds

Instead of investing directly in crude oil, you can use indirect investment options such as Mutual Funds and Exchange Traded Funds (ETFs).

• Mutual funds are investments involving pooled contributions from investors wishing to invest in a particular sector or set of securities.
• Exchange-Traded Funds (ETFs) are securities that track stocks in oil and gas companies, commodity prices, crude oil prices, or crude oil futures contracts.

Mutual funds and ETFs represent an easy option for investors that wish to invest indirectly in the energy sector.

You can purchase a share in an ETF or Mutual fund through different platforms. One option is to invest in shares in these funds directly via any investment platform. Also, some investment companies allow investors to use in-house accounts to purchase and sell ETFs and mutual funds. Another option is to set up an account with a brokerage. This is probably the most expensive option since some may charge fees for maintenance or account setup.

Equity Direct Participation Programs

This provides a chance to acquire ownership of shares in, for example, a gas company or oil company. You can buy shares through various options or simply receive partial ownership as compensation for providing financing. The greater your equity stake, the higher percentage of shares you will own. Ultimately, shareholders’ success is directly linked to the profitability of the gas or oil company.

Private Placement

Private placement involves selling bonds or stocks to a limited pool of investors instead of selling on the open stock market. Private placement securities can be bought directly from whoever issues the securities during the offer period. You can also purchase these private offerings through best-efforts private placements, overseen by a placement agent.

Oil and Gas Wells with DPP

Also referred to as Direct Participation Plans, equity oil and gas direct participation programs offer investors the chance to participate in tax benefits and the cash flow of a business venture. Generally, DPP securities are not publicly traded. The value of the product depends mainly on the underlying assets’ performance.

If you wish to access the benefits of DPP, you must meet certain asset and income thresholds. These vary from one direct participation program to another.

Different Types of Oil and Gas Investment Companies

Are you interested in gas and oil investing, then you must acquaint yourself with the various types of oil and gas companies? The oil and gas industry can be divided into three main segments, which are introduced as follows:

Upstream Companies

These companies are involved in exploring and extracting oil and other natural mineral resources such as gas. Oil exploration involves searching various locations for reservoirs of raw materials suitable for drilling oil wells. Upstream oil and gas companies are also known as Exploration and Production (E&P) companies.

These companies are often characterized by high investment capital and high risks because of the effort required to locate oil fields, drill oil wells, and provide the associated oilfield services.

There are several reliable E&P companies out there. An example is Pheasant Energy – its primary focus is the mineral, royalty, and working interest subset of the oil/gas sector. This upstream company is a trustworthy broker with a proven history of the quickest transactions in the industry.

Midstream Companies

The midstream oil and gas sector transports extracted raw materials to refineries for processing. Activities include pipeline construction, shipping, and storing of raw materials. Midstream oil and gas companies depend on the success of upstream companies. These companies are also highly regulated, especially concerning pipeline transmission.

Downstream Companies

Downstream oil and gas sector does the refining of crude oil and gas to produce finished products for public use. The downstream companies then deliver those refined products, for example, heating oil and gasoline, to consumers.

Integrated Companies

Integrated oil and gas companies explore, produce, refine, and distribute oil and gas products. This is as opposed to upstream or downstream companies specializing in only one area.

Oil field Service Companies

Companies that provide oilfield services typically supply drilling equipment, gas/oil well construction, and other support services. But these companies are not responsible for oil production or gas production themselves.

Which Are Some of the Top Oil and Gas Stocks To Invest In?

The oil industry is a highly volatile and competitive one, characterized by a higher level of risk than many other industries. After all, profits and losses can vary significantly, depending on the variation in demand, and global occurrences. Indeed, an imbalance in demand and supply can trigger a massive swing in crude oil prices.

Most investors want to know the best stock options in the oil and gas sector. Three gas and oil stocks stand out, and these are discussed below:

ExxonMobil Corp

This is one of the biggest oil companies in the world. It is fully integrated and operates in various sectors of the oil and gas industry. These include upstream, midstream, and even downstream distribution of products to consumers.

ExxonMobil has started making great efforts to boost efficiency while minimizing business costs. Over the past few years, ExxonMobil has considerably reduced its oil-producing costs. This has been achieved by focusing on assets that bring the highest return. As a result, it has generated excellent returns for oil investors as its oil prices grow higher.

The importance of easy access to energy for human comfort, social progress, and mobility cannot be denied. Its influence spreads across every facet of life. Over the past century, ExxonMobil has evolved from a regional marketer of kerosene to an advanced energy innovator. For this reason, investing in ExxonMobil stock is a good option if you wish to realize positive results. The healthy cash flow of ExxonMobil should keep protecting its dividend.

ConocoPhillips

This is another big player in the oil industry focused on exploration and production. Its activities are mainly finding and producing oil and natural gas. It operates across different locations worldwide.

Its asset quality and financial strength are unparalleled among other E&P companies. This allows ConocoPhillips to compete across the globe. ConocoPhillips is focused on making its innovation yield products that can enhance different aspects of the quality of living.

ConocoPhillips can generate profits in almost any oil market environment, thanks to its average cost per barrel of approximately $40 and other cheaper resources. The company is focused on meeting energy demand while providing great value for communities and its shareholders.

Furthermore, ConocoPhillips has a very high credit rating and offers one of the best oil stocks if you want to invest in oil.

Phillips 66

Philips 66 is a refining company operating in Europe and the United States. It is one of the leading downstream companies and has various investments in midstream operations. It also specializes in the marketing of specialty products, including lubricants.

This company also has a strong financial profile and a vertically-integrated, large-scale operating base. Thanks to this, Phillips 66 is one of the most cost-effective refineries in the sector. From their financial reports, investors can get stock updates and information.

It is an excellent option for anyone who wishes to make a smart oil investment. After all, this is a company devoted to returning cash to its investors while improving value for shareholders.

Are Oil and Gas a Good Investment?

Yes, it is a good investment, especially for long-term investors. It is worth pointing out that the oil and gas sector has experienced a significant rise over the past years and promises to follow this upward trajectory in the future.

Indeed, similar to other oil markets, the size of the oil drilling and gas extraction industry in the United States has risen by an average of 8.2% from 2017 to 2022. By investing in the oil and gas industry, there are several potential benefits that you might enjoy. Some of these are discussed below:

• Stable markets: Concerning the stock market, the oil and gas markets are less volatile and generally less affected by any destabilizing market forces. For this reason, investing in oil and gas might provide a form of insulation from inflation and other external factors.
• Strong return on oil investments: With wise oil/gas investments, you are more likely to realize a stable income with a higher return rate. Associated risks have also been improved with technological advancement.
• Several tax advantages: During the first year, intangible drilling cost deductions can result in up to 60 to 80% of well-related expenses offset against taxes. Besides this, 15% of the property’s gross income is tax-free. This makes oil and gas well-incentivized investments.

Regardless of the diversification of energy sources across the globe, studies have shown that the demand for fossil fuels has not decreased. Indeed, the global oil demand has been predicted to increase by 38 million barrels per day to 115 million barrels per day by 2025. This alone should dispel any thoughts of decline in the oil and gas industry.

Risks Associated With Oil and Gas Investment

While the benefits of investing in this sector are too good to ignore, they can only be enjoyed by understanding all associated risks involved in such investments. This helps you to make a wise investment. Some of the risks you should be aware of when you invest in oil and gas are explained as follows:

Volatility

This is a measure of the variation in oil prices. It is the extent oil prices can rise and fall within a specific period. Volatility depends on the inelasticity of both demand and supply to changes in the price in the short run. A volatile oil price can destabilize production costs, affecting output, especially for production companies with oil wells. Crude oil is considered a volatile commodity.

Liquidity

This measures how fast an oil and gas security can be converted into cash at the current market price. High liquidity risk indicates uncertainty about the growth of an asset, thereby making it difficult for buyers to purchase it due to the fear of incurring loss in the long term.

Oil Spills

Oil spills can be caused by accidents involving refineries, tankers, pipelines, storage facilities, and drilling rigs. They are a cause of pollution and the resulting environmental impact can seriously harm sea creatures while making seafood unsafe to eat. When this happens, oil companies are charged to pay compensation to those directly impacted by the spillage. It also includes the cost of cleaning the environment and damage to wildlife. These costs affect profitability and represent a risk for oil producers that must not be ignored.

Dividend Cuts

This occurs anytime a dividend-paying company reduces the number of dividends it pays, cuts high dividend yields, or stops paying dividends. A dividend cut often indicates the financial strain a company goes through. Usually, the news of a dividend cut can trigger an unwanted market reaction.

Mechanical Risk

When heavy machines are present on a site, there is always a risk of fires and explosions. Mechanical risk is associated with the machines and equipment used in oil and gas exploration and production. Fire can either erupt from machinery or the extraction site. The surrounding vapors are highly flammable and can saturate the air.

Reserve Risk

The risk of estimating the reserves and the volume of hydrocarbons being produced cannot be ignored. This can involve an economic risk because the operation costs, product prices, and market conditions are closely tied to the assumptions in the economic analysis. This can also be a political risk that taxation, political stability, and regulations will be within the range of analytic projection.

How Much Do I Need To Invest In Oil and Gas?

Contrary to popular opinion, investing in the oil and gas industry is not only for the rich. There are various options other than investing in oil wells directly. You do not need to break the bank to purchase energy sector stocks, mutual funds, or crude oil futures. Depending on your financial capabilities, there are several areas in the oil and gas industry that you can invest in.

How are oil and gas investments taxed?

How taxes are imposed on oil and gas varies by state in the United States. Generally, this can be done by taxing a portion of the market value, the volume produced, or some combination. In many states, tax benefits, exemptions, and credits have been implemented to ensure that extraction from specific types of wells is encouraged or discouraged.

Besides the severance tax that is imposed, some states impose conservation fees. These fees are based on the value or volume of the oil or gas produced.

Conclusion

The oil and gas industry is booming, and there are several ways an investor can gain exposure to the sector. For example, oil and gas stocks, exchange-traded funds, future contracts, mineral rights, and private placements.

Before investors decide how to invest in oil wells or other types of oil and gas investments, they must understand the various risks associated with such investments.

Frequently Asked Questions

Should I invest in oil and gas now?

Yes, you should invest in oil and gas. The oil and gas sector is growing in size and the oil demand is not reducing. Once you understand how the industry works and the associated risks, you are good to go!

Is the world running out of oil?

No, the world is not running out of oil. You might think that production and demand peaked a long time ago. Yet, the world is producing more oil than ever!

Are electric cars reducing the oil demand?

No. Currently, electric cars are not significantly reducing the demand despite the diversification of energy sources across the globe.

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