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Don’t Wait For Oil To Hit $20, Sell These Energy Funds

In a doomsday scenario, Goldman Sachs (NYSE: GS ) projects oil prices may nosedive all the way to $20. Financial and fundamental metrics are said to be weaker this year and a glut in global production may drag oil prices lower. While a doomsday scenario will see oil plunge to $20, the official projection for WTI in 2016 is $45, down from a prior estimate of $57. For 2017, Goldman left the projection unchanged at $60. Last Wednesday, the Energy Information Administration (EIA) reported that the US commercial crude oil inventories dropped 2.1 million barrels for the week ending Sep 11 from the previous week to 455.9 million barrels. US commercial crude oil had increased 2.6 million barrels in the week prior. This encouraging report boosted energy shares. However, these are momentary respites for the crude prices, as they may continue to remain low. For the short term, oil prices may remain muted. A radical slump may not be seen in the short term, as there’s hope that geopolitical news doesn’t act as the igniter. Bearishness will persist though, as it is unlikely that there will be a consistent sharp decline in US shale oil production. Also for oil prices to bounce sharply higher, the OPEC nations would need to cooperate with non-OPEC producers to cut production. In spite of soft pricing, U.S. shale producers and OPEC continue to produce more of the commodity for fear of losing their market share. Most importantly, when the energy market had pushed the cartel to cut output last November, it had clearly refrained from doing so. The $20 Doldrum A decade ago, Goldman projected that oil prices have entered the “super spike” period and that the price of oil would inflate to $105. This was proved right, though the prediction had sparked criticism that Goldman Sachs was marketing its commodity index fund. This time with a $20 prediction for the worst-case scenario, even those criticisms will not make sense. When crude prices were hovering significantly over $100, it must have sounded strange to predict its fall to $40 in a year. But it did happen. Goldman says that there is less than a 50% chance of oil dropping to the $20 figure. The glut or global oversupply of oil is larger than what Goldman had predicted earlier. Below $20, some U.S. shale-oil producers will not be able to recover their operating cost and will eventually be forced to stop pumping. Production Cut Most Wanted A production cut from the U.S. shale players is most needed. The International Energy Agency (IEA) is anticipating U.S. oil production to decrease by 400,000 barrels a day in 2016 as the shale players might soon slip on low crude prices. Most importantly, the declining U.S. oil production trend has already started this year. This was revealed in the short-term energy outlook of the Energy Information Administration (EIA) which provides official energy statistics from the U.S. government. Per this outlook, August oil production declined by 140,000 barrels a day from the prior month. Energy Funds to Sell For risk-averse investors who are cautious of this sector, we present 3 Energy funds below that carry either a Zacks Mutual Fund Rank #4 (Sell) or Zacks Mutual Fund Rank #5 (Strong Sell) as we expect these funds to underperform its peers in the future. Remember, the goal of the Zacks Mutual Fund Rank is to guide investors to identify potential winners and losers. Unlike most of the fund-rating systems, the Zacks Mutual Fund Rank is not just focused on past performance, but the likely future success of the fund. The minimum initial investment for these funds is within $5000. The BlackRock Energy & Resources Portfolio A (MUTF: SSGRX ) seeks capital appreciation over the long run. SSGRX invests a lion’s share of its assets in small cap companies related to sectors including energy, natural resources and utilities. SSGRX has no limit on number of companies it can invest in, but it will invest in a minimum of three countries. SSGRX currently carries a Zacks Mutual Fund Rank #4. The year-to-date and 1-year losses are 26.2% and 47.5%. The 3 and 5-year annualized losses now stand at 15.3% and 8.3%. Annual expense ratio of 1.31% is lower than the category average of 1.45%, but SSGRX carries a front end sales load of 5.25%. The BlackRock All-Cap Energy & Resources Portfolio A (MUTF: BACAX ) seeks capital appreciation over the long term. BACAX invests a majority of its assets in domestic and foreign natural resources and energy companies. BACAX may also invest in related businesses and utilities. However, a minimum of 25% of its assets must be invested in the energy sector. BACAX currently carries a Zacks Mutual Fund Rank #4. The year-to-date and 1-year losses are 24.2% and 38%. The 3 and 5-year annualized losses now stand at 9.2% and 4.6%. Annual expense ratio of 1.38% is lower than the category average of 1.45%, but SSGRX carries a front end sales load of 5.25%. The Rydex Energy Services Fund A (MUTF: RYESX ) seeks growth of capital. The fund invests a majority of its assets in equities of small to mid-cap Energy Services Companies that are domestically traded. It also invests in derivatives. The fund may also buy American Depositary Receipts for exposure to non-Us energy companies. RYESX currently carries a Zacks Mutual Fund Rank #4. The year-to-date and 1-year losses are 25.3% and 48.5%. The 3 and 5-year annualized losses now stand at 15.3% and 5%. Annual expense ratio of 1.6% is lower than the category average of 1.45%, but RYESX carries a front end sales load of 4.75%. The Ivy Global Natural Resources Fund A (MUTF: IGNAX ) seeks capital appreciation. It invests heavily in equity securities of companies across the globe, whose primary operations are related to natural resources, including suppliers and service providers. A minimum of 65% of its assets are invested in a minimum of three countries and may include domestic firms. IGNAX currently carries a Zacks Mutual Fund Rank #5. The year-to-date and 1-year losses are 14.6% and 32.2%. The 3 and 5-year annualized losses now stand at 8.1% and 4.5%. Annual expense ratio of 1.57% is higher than the category average of 1.42%, and IGNAX carries a front end sales load of 5.75%. Link to the original post on Zacks.com

A Fork In The Road For XIV

Summary Investors are currently torn between fear mongering pundits and semi-positive economics. An update on the contango and backwardation strategy. The longest period of backwardation in over four years has ended, for now. It has been a very interesting couple of weeks in regards to contango and backwardation. Unlike most of my readers, I don’t get the real time view of the market since I am in the classroom all day. I get a few minutes to check at lunch and that sums up my daily view of the market until around 8pm. My preferred strategy here to profit from the increased volatility has been the contango and backwardation strategy. You can find a detailed description of that strategy, with back testing, here . I always find it fun to go back and read my past writings. When I first started writing for Seeking Alpha, I really wasn’t that great. I believe I had to edit my first article around five times before they agreed to publish it. That is life. Pick yourself up and try again. When I first introduced this strategy on Seeking Alpha, I pointed out that it would not win 100% of the time. Because we are using contango and backwardation as entry and exit points, the strategy becomes difficult when you have futures that consistently bouncing into and out of backwardation. There are two basic options to overcome this problem: Continue on with the strategy. Remember that this strategy will historically protect you from severe losses. Move away from the strategy by holding your position. If you have a long-term positive view for the market and the economy, then you may want to buy and hold a short position in volatility rather than continuing to trade into and out of positions. Before entering these trades you should be fully aware of your potential risks verses the reward. Moving Forward I have stated this previously and it is now being confirmed in the markets. The VIX Index and VIX Futures have moved away from their historically low range. In the short-term I would expect futures to begin trading more towards the historical mean. Take a look at the chart below: (click to enlarge) The VIX will move through cycles of higher and lower ranges of volatility. Historically when the VIX trades in the 10-13 range for an extended period of time, it is followed by a prolonged period where the median VIX will move to a 17-25 range. In periods of economic distress or turmoil that range can be much higher. Let’s look at the VelocityShares Daily Inverse VIX Short-Term ETN (NASDAQ: XIV ) as a basis for discussion here. We know that XIV is driven by the first and second month’s contract within the VIX futures. If the front month’s contract were to fall to 13 from here, that would represent a theoretical gain of around 30% considering all factors. However, if the front month contract were to fall to 17 than XIV would experience a theoretical gain of around 12%. In both cases you would have the added benefit of contango to compound your gains over time. This would make your actual gain larger than what I am reporting for illustration purposes. Over the long-term XIV needs healthy levels of contango to build value and cannot just depend on falling futures contracts. When assessing risk and reward you need to factor in a potential sea change in the median level of the VIX futures. As you can see below XIV is only off about 17% from six months ago despite experiencing a severe haircut. All of this is can be attributed to the wealth built from contango. See below: We have just experienced the longest period of backwardation in over four years: (click to enlarge) Other events that could affect XIV and volatility The Senate and House are currently debating the next potential government shutdown which is scheduled for the end of this month. This would provide a healthy dose of volatility and negatively impact XIV. The larger question here is, is this now how the United States government operates now? I have written past articles, which have been mainly brushed to the side, on government debt levels. I believe our debt is unsustainable with current levels of economic growth. Ultra low rates have helped our interest payments. I would be more optimistic about our government debt if we had respectable politicians who could put their personal agendas aside and come together to actually solve problems. Much of what I see is theater and kicking the can down the road. For example, the current solution to the government shutdown is to pass a measure to get us to December. Slow growth is now the new normal. This has been confirmed by The Fed and recently several CEOs have come on record as stating the same. The concern with slow economic growth and low inflation is that it doesn’t take much to turn the tide the other way. These are larger economic problems that require us to come together and create solutions that last longer than two months. Conclusion For now, the days of ultra-low volatility are gone but not forgotten. Like the business cycle it will always come back around. Whether that will be in a couple months or several years remains to be seen. I remain optimistic on the U.S. economy and hope that Washington has the will power to create long-term optimism through compromise. We need to help foster genuine sustainable growth. Bubbles create great opportunities for us volatility traders, but hurt real people. We may get into a longer period of contango this week that would again align your trading with the contango and backwardation strategy. However, if the market remains choppy we could be moving between the two often. You will have to make a personal decision on how you want to proceed with your investments. Follow me here on Seeking Alpha for regular volatility updates and news you can use. As always, feel free to leave your professional comments below. We always create some great discussions. Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in XIV over the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. Additional disclosure: The author reserves the right to trade into and out of any products mentioned here and generally will not post exact positions or trades in real time. The author does not give individual buy/sell advice.

ETFs Driving Big Gains For Oil Shorts

Summary Money moving in and out of long and short oil ETFs, as low oil price visibility creates more uncertainty. Retail investors should focus on only holding for a very limited time period if they go short. There is nothing to suggest oil prices can rise to sustainable levels in the near future. Traders with a high tolerance for leveraged risk have been making a killing by shorting oil in 2015, led by a number of ETFs that have been, in some cases, up well over 200 percent on the year. There has been a lot more volatility than usual in these types of instruments, as headlines contradicting one another on the movement of the price of oil have money moving in an out of ETFs catering to short and long outlooks for oil. Some large players have been short oil all year, but for the retail investor, it would be wise to take a position in these ETFs for a very short period of time. Some ETFs even suggest and encourage that to their investors, saying in many cases they’re built to hold a position for only one day. All the volatility and inflows and outflows reinforce the fact no one really knows where the price of oil will go, with some like Goldman Sachs saying it could plunge to as low as $20 per barrel, and OPEC recently saying it’s looking at it rebounding to $80 per barrel. In the case of OPEC, that’s primarily because it believes a decrease in American production will begin to offset excess inventory, and start to drive up prices. That is based upon its assessment it has beaten down a lot of the tight or shale oil drillers, which it believes will be a sustainable event. I disagree with that because of the plethora of drilled but uncompleted (DUC) wells, which can quickly and inexpensively be brought online in response to an increase in the price of oil. The truth is, as the market is showing, it could go either way. ETF oil shorting products Before getting into a couple of products and some interesting facts about their performance and why money has been changing hands, it’s worth looking at a couple of elements related to these types of ETFs. As already mentioned, most if not all retail investors should be thinking very limited holding periods for ETFs that short oil. They are extremely volatile, and can move up or down very quickly. If using leverage to make the trade, when including daily rebalancing, the short term movement can be very different than what is expected of the long-term performance data of the ETF or ETN. At this time risk/reward is worth the plunge for those that have some spare capital and a high tolerance for risk. There has to be the belief the price of oil will continue to go down to enter this play. I’m not in this particular play at this time, but I’ve done it with other commodities, and there is a lot of money to be made if you’re right in your assessment of the market. That said, leverage is becoming more of a risk as things get murkier, as conflicting outlooks suggest the underlying catalysts for either direction are no longer as sure – at least in the mind of traders – as they were earlier in the year. That’s one of the major reasons, even as oil has remained under pressure, a lot of money has been taken off the table. VelocityShares 3x Inverse Crude Oil ETN (NYSEARCA: DWTI ) Since DWTI has been one of the top performers in the sector in 2015, we’ll take a look at it first. DWTI offers 3x or 300% exposure to how the S&P GSCI Crude Oil Index ER performs on a daily basis. It does have a fairly high annual fee of 1.35 percent. Since this and others are so volatile, I’m not going to even attempt to look at how much it’s up for the year. It changes significantly in a very short period of time, as you can see in the chart below. Its prospectus states it’s “suitable” to be held by most investors for one day. This is a short-term play where it simply doesn’t matter. Again, larger investors can hold longer if they believe the trend will remain down, but now that the price of oil has fallen so much over the last year, leveraged players are under increasing risk if things surprisingly and abruptly turn around. Daily average volume is a solid 1.8 million shares, but as with its share price, its asset base can be very volatile. (click to enlarge) source: YahooFinance PowerShares DB Crude Oil Short ETN (NYSEARCA: SZO ) Since SZO doesn’t use leverage, it is probably one of the safer instruments in this space, if the term ‘safe’ can be applied. It offers inverse exposure to WTI crude, tracking the Deutsche Bank Liquid Commodity Index, which covers how well a group of oil futures contracts are performing. Over the last three months it is up about 30 percent, and has an expense ratio of 0.75 percent. It trades far less than DWTI, with a 3-month daily average of approximately 35,000 shares. Not nearly as popular as DWTI, it only has net assets of about $28.59 million. (click to enlarge) source: YahooFinance ProShares UltraShort Bloomberg Crude Oil ETF (NYSEARCA: SCO ) My final short to look at is SCO; its goal is to attempt to provide double the daily inverse return of the performance of the Bloomberg WTI Crude Oil Subindex. Over the last three months it has generated a return of about 56 percent. Total expenses amount to 95 basis points. I wanted to highlight SCO because it has been one of the top performing ETFs this year, and yet over $175 million has been removed from assets, according to Bloomberg. That points to growing skittishness over the uncertainty the price of oil is going to go. (click to enlarge) source: YahooFinance The United States Oil ETF (NYSEARCA: USO ) Since USO is a long play on oil it is included to confirm there is a lot of money moving in and out of the long and short ETFs, and not all of it is intuitive. With USO, it has enjoyed near $2.75 billion in new cash investment, even though it has lost over 50 percent of its value so far in the last twelve months. There is no doubt this represents investors believing there is going to be a rebound in oil prices; at least in the short term. This, combined with the outflows from SZO, reiterate concerns over the risk associated with using leverage to short oil, and having no visibility on where the price of oil is going. (click to enlarge) source: YahooFinance Conclusion Shorting oil using ETFs has been very lucrative this year, and my thought is there is a more room to make money for those shorting oil within a limited time frame. For myself, I wouldn’t use leverage any longer because of the low visibility factor concerning oil prices, and I wouldn’t stay in longer than a day. I’m primarily speaking to retail investors here, although until there is more clarity in the short term, larger investors will likely play by similar rules, if they continue to use a shorting strategy in oil at all. My final thought concerning oil is a lot of the headlines are misleading because of the fact OPEC know larger shale producers can put production on hold if the price of oil continues to fall, and if it rebounds, can quickly respond within less than a month with its DUC wells. So the idea it can shut down a competitor like it has in the past, in my opinion, is a misguided one. Shale oil isn’t Russian oil or other types of oil that may take a lot of time to get back into production once it has been shut down. Companies with shale exposure can simply bide their time and wait until the price of oil moves up, and they can almost immediately start production. OPEC can do nothing to stop the larger shale companies. And even if the smaller capitalized companies go out of business, it doesn’t take away the fact the oil is still there. Larger companies will acquire the assets. OPEC has signaled it will continue to produce oil in order to maintain market share. While that has resulted in U.S. companies cutting back on production, there is so much supply out there, it will take a lot more to provide support for oil prices. There is a message being sent, but OPEC doesn’t have the teeth it had before shale, and going forward it has to deal with the fact that once production is lowered and prices start going up, shale companies will simply ramp up production and the cycle will continue. That means eventually OPEC will have to lower production if oil price are to increase at sustainable levels. With Russia so dependent on its oil for revenue, it’s not going to do so, which means this is a long-term trend that at this time, doesn’t have an answer outside of OPEC losing market share. For that reason these ETFs built to take advantage of low oil prices, will make money for those willing to take the risk and holding for very short periods of time. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.