Energy investments can be very rewarding, but also carry substantial risk to investors who are not properly prepared to enter this market. The best preparation is to become knowledgeable about the energy investment field through websites, books and articles. Also, there are specific investment firms dedicated to the energy field that can be quite useful.
Erstwhile energy investors must understand the basics of the worldwide energy industry, including:
- the drivers of energy demand and supply, especially as reflected in the prices for oil and natural gas
- the operations of the various sub-industries within the energy sector
- the challenges to the sector posed by finite oil production capacity and the growing use of alternative energy
- how to analyze the industry segments top-down and also on a company-by-company basis
- picking winners and losers among the different firms in this industry group
- learning how to tailor your investments for varying market conditions
Demand and supply are the keys to energy prices, and you must understand the determinants of both if you are to succeed in the energy investment arena. Demand for crude oil is powered by worldwide economic growth. Oil is still the world’s basis energy source for industry, transportation, and consumers. Realize that changes in oil supply are slow to take effect, so it is oil demand, and how it responds to current economic activity, that is paramount is setting prices. Therefore, periods of strong economic activity should be accompanied by higher oil prices. If prices go too high, of course, demand could be curtailed.
Oil supply is relatively stable in the short term, due to the lead times involved in exploration and drilling. Therefore, most oil supply surprises are ones that decrease oil supply, thus driving prices higher. The “risk” of unexpected increases in supply are minimal when compared to the risks posed by acts of nature and man.
Luckily there are several important websites like Fisher Investments that can teach you about the energy markets. Armed with this knowledge, you can make informed investment decisions and allocate your portfolio appropriately. As attractive as energy investing may seem, it should be only one part of a highly-diversified portfolio.
Of course, most people focus on the oil sector when the topic turns to energy investments. It is important to learn about oil fundamentals and about the different types of companies (exploration, services, refinement, etc.) that comprise the sector. You must also learn about peak oil, the difference between upstream and downstream oil, and how they are each affected by politico-economic shocks.
Other important sectors include natural gas and coal. And don’t forget the alternative energy sectors: wind, biofuel, solar, and nuclear. Each sector has its own risks and rewards.