What some small investors might be tempted to do, however, is to buy energy-related exchange traded funds, or ETFs. These are essentially mutual funds that trade like stocks on exchanges. One of the most popular in the energy sector is the US Oil Trust (USO). But this popular ETF isn’t as safe as it appears. While USO is an ETF, it invests in oil commodity futures contracts, rather than putting money into something far more stable, like the stocks of oil companies.
Even more risky are ETFs that not only mimic futures, they also borrow money to leverage the bet. One of the most popular, VelocityShares 3X Long Crude Oil ETN (UWTI), is down about 90 percent over the last year. No thanks.
Betting on oil the sane way
The least risky way to invest in the recovery of the energy sector is to use an ETF or mutual fund that owns oil company stocks, preferably a lot of them. The one I like best is Vanguard’s Energy ETF (VDE). This ETF owns the stocks of 144 oil companies, including the world’s largest. While you’re waiting for oil to recover, you’ll also earn a dividend, currently at 3.3 percent. You can buy it anywhere stocks are sold.
I have no affiliation with Vanguard, although I do have an account there. The reason I’m suggesting this ETF is because it’s among the lowest cost. The annual expenses are a skinny 0.1 percent. But if you want to shop around, I encourage you to do so.
Another option, of course, is to simply buy the stocks of individual oil companies. But since an ETF gives you much greater diversification and the costs are low, why bother?
Here’s what I did. Should you do it too?
On Feb. 10, I invested some of my 401(k) money in the Vanguard Energy Investors mutual fund (VGENX). Because it’s a 401(k), I’m not able to buy ETFs, which is why I couldn’t buy the ETF above and bought its mutual fund cousin instead. The expense ratio is significantly higher; 0.37 percent versus 0.1 percent, but that’s the extra price I have to pay for a mutual fund.
As I write this, I’m up about 5 percent. But that investment was just the first of many I’m planning. My strategy is to buy equal amounts monthly for the next six months. The oil recovery isn’t going to happen overnight. It may take years. The prudent approach, as with any investment strategy, is to dollar-cost average into a position. Putting in equal amounts at regular intervals means automatically buying more shares when prices are low and fewer when they’re higher.
Now that I’ve told you what to do, what not to do and how to do it, should you?
That depends. Investing in stocks entails risk, and investing in specific sectors, like oil, magnifies the risk immensely. Don’t ever invest in stocks with money that you’ll need within five years. Don’t ever invest in anything you don’t thoroughly understand. And don’t ever invest so much that you become freaked out. If you’re scared, you either invested too much or you don’t have enough understanding of what you’re doing.
And don’t ever think that just because I’m doing something, or anyone else is, you should.
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I founded Money Talks News in 1991. I’ve earned a CPA (currently inactive), and have also earned licenses in stocks, commodities, options principal, mutual funds, life insurance, securities supervisor and real estate. Got some time to kill? You can learn more about me here.