Having little funds, and hoping for huge turnover? ROI is always the motivating factor for new investors, while expert investors consider feasibility and business sustainability.
One of the surest things to invest in is oil. Investment in oil has not just stood the test of time, it yields ostentatious results. This makes oil business lucrative.
Unfortunately, the business investment is open to those who have enough money to go around. Well, this article proffers a solution on how people can invest in oil with little money.
You probably don’t have billions stack somewhere in your name and you’re wondering how you can invest in oil with your little money.
Well, you are not alone in that regard, but the consensus will be “what investment can I make with this little money that could yield reasonably well?” “Will it be possible to use this little fund to invest in oil and gas?” you may be asking yourself all these questions.
In this article, you will see why your consideration of oil investment is not a bad idea, and why you should go ahead with it despite the risks involved.
The table of contents below highlights all you need to know about investing in oil.
What Is Crude Oil?
Understanding what you’re investing in is the first step in making any investment.
Crude oil is a petroleum product that occurs naturally and is made up of hydrocarbon deposits and other organic materials. Crude oil is a form of fossil fuel that is refined into usable products such as gasoline, diesel, and various petrochemicals.
It is a nonrenewable resource, which means that it cannot be replenished naturally at the rate at which we consume it, making it a finite resource.
Crude oil is traditionally produced by exploration, where it is also discovered alongside other resources such as natural gas (which is lighter and therefore sits above the crude oil) and saline water (which is denser and sinks below).
Following extraction, crude oil is refined and processed into a range of consumer products such as gasoline, kerosene, and asphalt.
While it is commonly referred to as “black gold,” crude oil varies in viscosity and colour from black to yellow depending on its hydrocarbon composition. The first stage of refining is distillation, which is the method of heating and separating oil into different components.
Investors purchase oil contracts: futures contracts and spot contracts. Oil may be a speculative asset, a portfolio diversifier, or a hedge against related positions for the individual investor.
Why Invest In Oil
There are a number of reasons why you should invest in oil. Generally, the sustainability and lucrativeness of oil and gas projects appear to be the leading reason – for new investors.
Well, oil and gas projects offer some of the most attractive tax incentives for investments. It can be very profitable if done correctly. However, the wrong move could lead to total loss of a lot of money. So, you need to be both aware, knowledgeable to embark on such investment.
One way to do this is to consider the benefits and drawbacks of oil and gas investment alongside its feasibility.
Benefits of Investing in Oil at Low Cost
Significant tax advantages to investing in oil and gas, especially if you own producing oil and gas well. Among the tax advantages are:
- The amount of tax gain would be determined by the structure of the oil and gas expenditure. For example, a drilling program might result in a 75percent -to 100percent tax deduction.
- Cash flow from producing wells or royalty interest can have a 10%-15% yearly depreciation allowance.
- Tax breaks based on passive income
- Investing in oil and gas provides diversification of your portfolio and can be seen as a hedge against inflation.
- Some oil and gas investment forms may provide consistent cash flow. One good well will provide you with passive income for decades and generate exponential returns.
- Oil and gas products are ubiquitous. It is used to make a variety of items, including fuel for your engine, propane for barbecue, and even sports balls (footballs, tennis balls, etc), even though the majority of plastics are also petroleum-based.
- Crude Oil has no substitute and there is no alternative to the derivatives of oil and gas.
- Since oil and gas are commodities, there is a small supply — and high demand.
Drawbacks of Investing In Oil
Despite all of the wonderful benefits of investing in oil and gas, it is important to consider some of the drawbacks.
- Price volatility is the primary risk associated with oil and gas investments.
- Another drawback is that, depending on the type of oil investment and the scale of the project, it can be a significant financial barrier to entry; drilling a single well can cost hundreds of thousands to millions of dollars.
- If one of your oil and gas wells spills, you may face significant liability.
HOW TO INVEST IN OIL WITH LITTLE FUNDS
Despite the pros and cons of oil and gas investment, if you are willing to bear the risk – below are several ways you can invest in oil at a low cost
#1. Energy Stocks and Mutual Funds
Purchasing energy company stock is potentially the simplest way to invest in the oil market with little money. Stocks typically rise in tandem with the price of oil, and the majority of these investments often pay dividends.
That means you’ll get a sweet, consistent stream of income in addition to any gains from the stock’s increase. If the thought of stock investment gives you the financial-novice willies, you can always invest in energy mutual funds.
You buy shares in the funds, which have a diverse portfolio of investments in oil exploration, refining, distribution, and oilfield services. A competent investor makes investment decisions and is compensated by the fund. Energy funds spread the risk and simplify the entire investment process.
Also Read: Best Oil Stocks to Buy in 2022
#2. ETFs (Exchange-Traded Funds)
When you invest in oil ETFs, you are purchasing shares in a portfolio, which is traded on the stock exchange in the same way that company stocks are. The output of oil stocks is being tracked by ETFs.
Investing in oil through an ETF does not require a large initial investment and can be a good choice for inexperienced investors or those looking to diversify their portfolios.
The ability to invest in the oil industry through a diversified portfolio at a low cost is one of the benefits of investing in ETFs. ETFs can also be purchased from your online broker, making it simple for investors to diversify into the oil industry.
#3. Invest in Oil Futures
You can invest in oil and gas by buying potential oil and gas contracts if you are able to take on the high risks associated with it. When investors purchase a contract, they are indicating that they plan to sell a portion of their stake in the oil commodities by a certain date. Essentially, these investors are betting on how much oil and gas prices will rise in the near future.
If the price of oil and gas rises, the investor who purchased an oil and gas contract would benefit. On the other hand, if oil and gas prices fall, the investor who purchased an oil and gas contract would lose money. The catch is that the contract investor must always keep his or her obligations under the contract even if it means losing money.
Investing in future oil and gas contracts is rife with risk because the amount of money you will lose when oil and gas prices fall can be enormous.
#4. Investing in tokenized commodities
One of the most recent ways of investing is asset tokenization. It entails developing a digital counterpart for a physical asset or commodity in the form of tokens based on blockchain technology.
It aids in the removal of intermediaries and all related costs, implying that tokenized commodities can be considered an adequate investment opportunity if liquidity and flexibility are desired, ensuring that with little money, one can have an oil and gas investment.
Despite appearances, purchasing tokenized goods is easy. If you wish to invest in oil in this manner, all you have to do is find an online broker who offers this form of investment, open an account, finance it, and buy the tokenized product of your choice.
#5. Drilling program
Many investors looking to strike it rich in a legendary sector have been enticed by direct capital investment in an oil-drilling operation.
In theory, the capital is invested directly in a generating or exploratory well, with a potential return that is several times greater than an indirect investment in bonds, mutual funds, or futures. The tax authorities authorize you to write off a portion of your investment, theoretically lowering your income taxes.
However, oil wells are a largely uncontrolled investment sector rife with con artists and swindlers. Do your own analysis before making any direct investment in oil production, and show the prospectus to a broker, solicitor, or accountant you know and trust. Different drilling programs exist under this category viz;
#6. Exploratory Drilling Program
This is the riskiest form of program and a “high risk, high reward” investment. When an operating company structures a contract to search for oil in a new location. New wells are usually drilled in areas where there has been no prior activity or drilling.
Although there is a risk that the exploratory wells will find a lot of oil and yield crazy returns, there is also a chance that the well will be a “dud” and produce little or no oil.
In exploratory projects, the contribution is normally tax-deductible to the extent of 75% to 100%.
#7. Developmental Drilling Program
This is the most prevalent form of DPP. Typically, an operating company seeks to drill additional wells in an already proven field.
Since there are already generating wells and historical patterns in these regions, the likelihood of drilling a “dry hole” is much lower — but, as always, nothing is guaranteed.
Drilling programs of this kind are typically preferred by investors who want an immediate tax write-off against profits in the same year.
The tax advantages will result in write-offs ranging from 75% to 95%.
This form of investment can also provide a consistent cash flow whether oil prices remain stable or rise.
#8. Working Interest Program
The construction wells have already been drilled and are produced in this program.
Other working interest owners are usually looking to cash out and sell their stake to another investor. This is analogous to purchasing real estate that already generates a rental income.
Apart from the depreciation permitted on the asset, there are no significant tax advantages with this form of investment.
#9. Rework Program
Program re-work is less popular. Re-working projects typically include operators “re-working” or revitalizing already generating wells with low output rates.
This usually entails:
- cleaning the well
- drilling into new zones
- making casing or tubing repairs
These types of investments can be risky because there is no guarantee that the well output rate will increase or that the rework will result in a significant increase in production. A small investment, on the other hand, can result in very large returns on a well or group of wells.
Overall, investing in the right DPP can be very profitable, but it is important to be aware of some of the risks associated with DPPs.
This is why, before investing in these projects, you should consult with an oil and gas attorney to ensure you understand all the risks involved.
#10. Owning Mineral Rights
Aside from the DPP options, we’ve already discussed, there’s one more way to invest in oil and gas. This is the ownership of mineral rights to oil and gas.
Simply put, “mineral rights” mean you have ownership of the oil and gas under the soil. Mineral rights allow you to explore (drill) for and produce oil and gas on a piece of land. It also includes the right to lease land for the extraction of oil and gas.
Mineral rights are typically purchased through an approved broker; however, the cost of purchasing mineral rights can be very high.
After acquiring mineral rights, an individual may enter into mineral rights ownership agreements with oil and gas companies.
A royalty interest is one of the most popular forms of ownership. This occurs when mineral rights are leased to an oil company for the purpose of oil and gas exploration and development.
When the operator begins extracting oil and gas, the owner retains a portion of the sales. The costs of drilling and running the wells are not borne by the royalty holders.
This form of ownership provides investors with a very lucrative passive income.
This form of ownership offers investors a very lucrative passive income; however, good mineral rights deals are difficult to come by.
Investing in the oil and gas sector entails a range of major risks. Commodity price volatility risk, dividend payment cuts for companies that pay them, and the likelihood of an oil spill or other accident during the processing of oil or natural gas are three of these threats. Long-term investments in oil and gas firms, on the other hand, can be extremely profitable. Before investing in the business, investors should completely understand the risks.