Historic lows for crude oil have caused some to start looking for chances to buy the battered commodity, and to look for value in energy stocks. But for traders who desire to get upside exposure to oil, what’s the best way to do it?
One could buy crude oil futures, but that may pose a difficulty for some retail investors. After all, futures are traded on margin, profits and losses are recognized daily, and the contracts roll over each month. Each of these factors makes futures trading more attention-consuming and potentially risky for traders.
The most obvious option for many investors is to buy an oil ETF, such as the grandly named United States Oil Fund (USO). To that ETF’s credit, it has enjoyed a 0.96 correlation with crude over the past five years, meaning that it does a great job of replicating oil’s moves.
Correlation, which measures that strength of the relationship between two data series, runs from -1 to 1 — with 0 indicating no relationship between the two, 1 indicating perfect correlation and -1 indicating exact inverse correlation.
For those who want to bet on oil with part of their allocation to stocks, other possibilities present themselves. The SPDR energy sector ETF (XLE) has enjoyed a 0.56 correlation to crude over the past 10 years, meaning that oil can explain over half of the ETF’s movement. But as oil has tumbled over the past year, that correlation has actually risen, to 0.64 percent. That means that a crude rebound is almost guaranteed to bring the XLE significantly higher.
In terms of specific companies, the S&P 500 stock most correlated to crude oil over the past year is Schlumberger. The third-largest energy component of the S&P, Schlumberger has enjoyed (or more accurately, suffered) a correlation with oil of 0.66 over the past year.
On the other hand, the biggest of the energy giants, Exxon Mobil, has only a 0.51 correlation to crude.
Meanwhile, the overall S&P 500 has a 0.35 correlation to WTI crude oil, based on the past five years of daily trading data. That means that if oil rises, it is liable to take the overall market higher with it.
Or, conversely, that a further oil fall would be bad news for all stock market investors, at least in the short term.