The Oil and Gas Fundamentals for Beginner InvestorsNov 23, 2019
You search for ways that make your life comfortable and also got affected by the dream of “open-world”, the one that you strive to build, as you seek a better future for yourself and your family.
You obviously are aware of the importance of that key player: oil and gas that our daily life relies on.
According to the US Energy Information Association, the U.S. alone consumed an average of 20.5 million barrels of petroleum a day in 2018.
Despite the trend that goes for clean energy, we still need and consume them heavily and believe in their power.
The “black gold” that goes hand in hand with technology, to shape the future of countries.
It always seems an attractive and worthy field for investors to enter, especially after the global recovery from price shock.
Whether you are conservative or risk-taker, oil and gas fundamentals can guide you.
Because in any market, you should be aware of the basic concepts, be able to grasp and understand all the information and news about the industry, and to trust your partners in the investment too.
But to be satisfied with the results that come from this kind of investment, you have to make a balance between risk and gains out of opportunities in this field.
So, the challenge is to make the right decision at the right time with the vision of the far-sighted eagle.
Now, let’s go deeper to know the oil and gas fundamentals.
- Hydrocarbons: the origin of fossil fuel
- Oil and gas reservoirs
- Oil and gas main sectors
- Types of oil and gas companies
- Unconventional Resources of oil and gas
- Common oil and gas production terms of measurements
- What are the top 10 producing oil companies in 2018?
- Investment ways and strategies:
- Advantages of oil and gas investment
- Disadvantages of oil and gas investment
- The bottom line
Hydrocarbons: the origin of fossil fuel
It is formed from sand, salt, and other sediments that we find in the layers in the earth’s crust specifically in sedimentary rocks such as sandstone, limestone, and shale.
This comes as a result of the buried animals and plants that decayed and so became part of these rocks.
So, it is exposed to increased pressure and temperature that transforms organic material into oil and gas.
Oil and gas reservoirs
They are layers of permeable sedimentary rocks that contain large quantities of crude oil and gas that are formed when oil and gas are trapped under the less permeable rocks.
“Oil Pool” is an underground reservoir that contains oil.
Types of traps are: structural, strategic and combination trap.
Because oil and gas are less dense than water, so they can reach the surface through pores of these rocks.
If after drilling the well doesn’t include a commercially large amount of hydrocarbons, then, in this case, it is called dry hole.
Oil and gas main sectors
In order to understand the oil and gas supply chain, you should know the difference between each sector.
E&P; Exploration and production.
It means searching for potential fields for crude oil and gas, underwater and underground, that require high technology and intensive capital.
In this phase, companies do the drilling of exploratory wells, which is a hole in the earth, and also drill the previously established one to recover; extract and bring that raw material oil and gas to the surface.
E&P accordingly is risky and so, it pays off by giving high returns and also affected by global events.
Processing, storage, and transportation.
It is closely related to the downstream phase and affect its demand.
Midstream is less risky than the upstream phase and is characterized by high regulations and its investment is dependent on upstream status.
It is about transporting these raw materials to the refinery; the facility or the plant that is responsible to get the petroleum products such as diesel and gasoline.
So, transportation in this stage depends on the distance and commodity covered.
It is the final stage in the oil and gas supply chain and means the filtration, distillation, and purification of raw materials that were found in the upstream phase.
After this step, it is time for the marketing and distribution of petroleum to the end-users, whether it comes in the form of fuel, raw chemicals or finished products.
Downstream is the margin business.
This means that it depends on the difference between the cost of delivering crude oil to the refinery and the price of products extracted from it, taking into consideration the global perspective.
Types of oil and gas companies
Integrated oil companies
It may comprise all stages; upstream, midstream, and downstream.
Examples are Chevron and Exxon Mobil, BP, Total and Shell.
They are mainly considered about exploration and production; upstream phase, but some of them also include the midstream phase and are highly affected by the change in oil prices.
There are also independent downstream companies that include refiners, besides activities and stations, to market their products.
They are dedicated to providing service and equipment required for exploration, production, and manufacturing.
Unconventional Resources of oil and gas
The Society of Petroleum Engineers (SPE), for instance, defines “Unconventional Resources” as:
Petroleum accumulations that are prevalent throughout a large area and that are not significantly affected by pressure exerted by water (hydrodynamic influences); they are also called “continuous-type deposits” or “tight formations.”
We know that they existed before, but now companies are able to exploit them, due to the geopolitical factors and technological advancement.
This kind of resource impacted energy production globally, especially in countries that used to suffer from the high price of conventional sources of energy like the USA.
Unconventional could be Bituminous Oil Sands or Shale Oil and gas, Tight Oil and Gas, Natural Gas Hydrates, and Coalbed Methane “CBM”.
These resources need specific drilling, processing, and production techniques and facilities, that differ from those used for the conventional one.
Common oil and gas production terms of measurements
Barrel is the most common one, it is used to describe production per specific time, “BBL” is equal to 42 U.S. gallons, Also “M” means 1,000 and “MM” means 1 million.
For instance, we can say production is “10 mmbbl” which means 10 million barrels.
Production of oil is measured in terms of cubic feet that is abbreviated as “CF”, one trillion equals “TCF” and one billion means “BCF”.
Gas is measured in terms of oil for comparison purposes, so 1 barrel of oil has the same energy of 6000 cubic feet of gas and this is called “BOE”; a barrel of oil equivalent.
BOE is used to guide investors and analysts in evaluating the financial strength of companies.
According to the most recent data collected by the Energy Information Administration (EIA), total oil production averaged more than 80 million barrels per day (b/d).
What are the top 10 producing oil companies in 2018?
1) Saudi Aramco
Production: 10,963,091bbl/day – Revenue: 355.9 billion USD.
Production: 42,17,780bbl/day – Revenue: 118.46 billion USD.
Production: 3,412,203bbl/day – Revenue (2017): $251 billion.
Production: 3,256,486bbl/day – Revenue (2017): 110 billion USD.
Production: 2,981,246bbl/day – Revenue: 298.91 billion Euros.
Production: 2,294,701bbl/day – Revenue: 279 billion USD.
Production: 1,987,950bbl/day – Revenue: 95.6 billion USD.
Production: 1,973,135bbl/day – Revenue: AED 22,893 million.
Production: 1,830,537bbl/day – Revenue: 158.9 billion USD.
Production: 1,813,360bbl/day – Revenue: 85.4 billion USD.
So, after understanding the oil and gas fundamentals, How to invest in oil and gas?
Investment ways and strategies:
In general, there are four types of oil and gas investment: exploration, development, income, service, and support.
Now, let’s talk specifically about types of stocks.
Oil ETF “Exchange Traded Fund”
It is considered a diversified investment and is similar to an index or mutual fund that includes equities and bonds which can be done on the long term.
It is easily accessed by investors, as ETF is traded on a major stock exchange.
They could benefit from this diversity to make profits, instead of choosing specific companies and getting involved in such risk.
Examples of ETF are United States Oil Fund (USO), WTI Crude Oil Fund (CRUD), and S&P Global Energy Index Fund (IXC).
Types of ETFs are Oil price ETFs, Broad market ETFs, and Targeted sector-specific ETFs.
Oil and gas futures
This investment suits advanced investors; those who have access to information about the factors that affect oil prices.
Also, it is not the best option for beginners, because you have to be aware of their contractual language.
So, If you want to get involved in this kind, you have to predict the increase in prices, to sell and make a profit.
You should watch the cuts or the increase in the production of oil in OPEC, in order to be able to determine the global change in the price of oil and gas.
In general, the demand for crude oil is higher during summer and winter and is influenced by the price of heating oil.
Examples of futures are Brent and crude oil “WTI”, heating oil, and gasoline futures.
To get the most valuable insights about crude oil, follow and read the U.S. Energy Information Administration (EIA) Weekly Energy Stocks report.
Small and Micro cap stock and Limited partnerships
This would suitable for you if you want to own equity in small or micro companies directly.
If those stocks are not publicly traded, then you need to reach a broker who has access to them, or simply you can contact this company’s management.
Finally, What are the advantages and disadvantages of investing in oil and gas?
Advantages of oil and gas investment
Return on investment “ROI” maybe 5 or 10 times the initial costs, if during the exploration and drilling of wells, rich reserves are found.
This reserves can last for a long time and so, it continues to pay dividends for years and it starts to make the profits after 2 to 3 months of discovery.
This could help you to gain profit and stay safer when economic slowdowns occur.
Because as oil and gas prices increases, you gain more profit as your stocks’ prices rise, so you can recover from the loss in other types of stocks in your portfolio.
If you decided to take part in a limited partnership and you are in a situation when the stocks suffer from the depletion of resources.
Then you will still accrue allowances and also tax deduction from the IRS: international revenue service.
Disadvantages of oil and gas investment
Fluctuation of prices
Market prices are subject to volatility, due to local and international factors that investors can’t control.
Loss can happen in small companies that work in exploration or wildcatting, “Dry hole” also is another type but you get tax benefits in such a case.
So, What are the factors that influence the price of oil and gas?
- Demand and Supply
- Speculation; especially on oil future contracts
- Quality: the lack of sweet crude
“Sweet Crude” is a classification of petroleum that contains less than 0.42 percent sulfur, as established by the New York Mercantile Exchange (NYMEX).
Because sulfur decreases the value of the products extracted from crude oil.
Commissions and liquidity
Because in order to buy stocks in limited partnerships, you have to pay higher fees for stockbroker than the standard, also you share is less liquid than that in large companies.
Also, it is harder to sell your shares in small companies than large ones, especially those that are not publicly traded.
Sometimes, companies lie about the existence or the condition of the well and its interests.
The bottom line
After explaining the fundamentals of oil and gas, the tip for all investors in oil and gas is to choose wisely the companies that they will invest their money in.
Because some of those companies get involved in speculations, to get a higher return.
There are no big returns without any kind of risk.
So, you have to weigh the risk and return in each scenario, whether you are a conservative or risk-taker.
You should also understand all the terms and content of the contract, to be fully aware of what you are getting yourself into.
Finally, it is better to get in touch with independent financial advisors. instead of talking to those who keep telling you that this is an opportunity that you can’t miss.