It's been nothing new in the energy sector for oil prices to fall. This pattern has been sustained for much of the past 18 months. What has been in perpetual doubt, however, is where the crude oil market will finally hit rock bottom. For over a year, broad and diverse groups of investors have been placing speculative bets on a turnaround in energy prices—and so far they have repeatedly been wrong.
Crude oil most recently fell to an 11-and-½-year low after prices for both benchmarks (WTI and Brent) hit their lowest levels since July 2004. Today also saw the average U.S. gasoline price fall below $2 per gallon for the first time in nearly 7 years. Meanwhile, natural gas was nearly 10% higher as cheap oil means less demand for alternatives.
Energy Sector ETFs
By using exchange-traded funds, investors have persistently tried to predict (and profit from) the low point for crude oil prices. This speculative bet has been repeated time and again since the drop in oil prices really kicked off last summer. Somewhat surprisingly, it hasn't only been big hedge funds and market-makers who have used energy ETFs to try and bet on the bottom in oil: Even smaller retail investors (typically called "mom & pops") have been fairly active in ETFs that track the energy sector.
The two main funds that used as a proxy to crude prices are the SPDR Energy Select Sector Fund (NYSE:XLE) and the Vanguard Energy ETF (NYSE:VDE). In the last 18 months alone, these funds have seen $5.6 billion and $2 billion in fresh inflows from investors. These funds are far from obscure; XLE has a market cap of nearly $11.7 billion. Meanwhile, the similar ETF known as the United States Oil Fund LP (NYSE:USO) also saw inflows of $4.2 billion over that period.
Essentially, these funds will rise when the price trend for oil reverses into the positive direction.
Even the much smaller, higher-risk VelocityShares 3x Long Crude exchange-traded product (NYSE:UWTI) added an impressive $2.6 billion over the last year-and-a-half. Much of these inflows were more recent, as well. Although UWTI has had a few good days where it returned 15% to investors, it has thus far lost 98% of its initial value: In mid-2014, UWTI traded above $400 per share, compared to below $4/share today.
Over the last 18 months, Bloomberg calculates that the markets have poured $24 billion in total into energy ETFs in an attempt to score on a price rebound that has yet to materialize. This has proven far worse than the beating that investors took attempting to cash in on a turnaround in gold mining stocks two years ago:
"In 2013, investors went wild trying—and also failing—to call a bottom in gold miners. The difference here is they ‘only’ spent $3 billion mining the bottom in gold, versus the $24 billion spent diving for the nadir in oil. The Market Vectors Gold Miner ETF (NYSE:GDX) took in almost all of that cash and has lost 46 percent since."
The bulls in the gold mining sector have since "capitulated," or given up on betting on a swift turnaround. It appears the oil bulls are less inclined to admit defeat.
Those who still see a chance for crude oil to bounce back are citing one widespread trend in their favor: general skepticism about the teeth of the recent climate deal struck in Paris. Since all of the emissions-cutting targets in the deal are wholly voluntary, governments may have too strong an incentive to use fossil fuels by the cheap price level for oil. This would stimulate more demand than is perhaps expected, especially if a great deal of coal-burning is replaced by using inexpensive oil. (Coal is the "dirtiest" form of energy, from a carbon emissions stand-point.) How the political and economic conditions play out in that sense remains to be seen, but is worth keeping an eye on.
The opinions and forecasts herein are provided solely for informational purposes, and should not be used or construed as an offer, solicitation, or recommendation to buy or sell any product.