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Kiplinger’s Gets Investing in Oil/Commodities Wrong?

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I love getting Money Magazine and Kiplinger's Magazine each month. I get so much other information from the internet that it is refreshing to see what the experts think is important enough to include in the limited "dead-tree" media format.

It's also nice not to stare at a computer screen for a little bit.

I was reading this month's (well May 2015, because magazines live in the future) Kiplinger's and came across this James Glassman article about investing in cheaper oil. This immediately caught my attention, because I've been investing in oil for months now.

I think it is a great idea, so I eagerly read the article hoping for better investing tips or validation. I came away with neither.

By now we know that oil prices have dropped... everyone can see it at the gas station. There's a surplus of oil and it looks like it is going to be that way for some time. It seems it got so valuable that many countries (most notably the United States) invested in infrastructure to extract as efficiently as possible and demand has not risen to match as expected.

As the Kiplinger's article correctly points out, we don't know how long oil will stay at these prices. They seem low to us, because they've been high for a long time, but it was cheap through the 80s and 90s. It's anyone's guess.

Then the article seemed to stop making sense. I'll give you some quotes:

"I have written many times that individual investors should avoid direct purchases of commodities; they are just too volatile and unpredictable. But what about stocks of companies in the oil and gas business? When you buy their shares, aren’t you also betting on a commodity’s price? Certainly. But the exposure of those firms to oil and gas prices varies."

"Your best option now is big integrated energy companies like Chevron and Exxon, which have both market clout and solid balance sheets."

"Oil prices will go back up; they always do."

Do you see what I see?

I'm reading this article and thinking, "So I want to invest in cheap oil... and the idea is not to invest in cheap oil. Instead, I should invest in a single company that could have some hidden bookkeeping issues (Enron), a corporate affair (HP's firing of Mark Hurd), or simple mismanagement?"

That doesn't seem right. Typically if you want to own an asset that is volatile and unpredictable, you buy a small amount of that asset so that it doesn't overrun your entire portfolio. For example, I'm not going to put 50% of my money in oil, but instead look into whether 5% makes sense. I can deal with a small amount of volatility and unpredictability when I have a vast majority of the money in a well-balanced mix of domestic and international companies.

Plus if "oil prices will go back up; they always do", I may not care about volatility. I keep most of my investing in tax-advantaged retirement accounts, so I can wait it out 30 years. If I'm buying something cheap and volatile now, I'm fairly convinced it will, at some point due to the volatility, be "not as cheap" within that time frame.

I think the lesson is to not over-think investing too much. If you want to invest in something and you understand the risks to make it work in your overall portfolio, go for it. I think it is better to invest directly in what you want rather than taking on a bunch of businesses that dilute your objective.

I was reading the whole article through this lens. It lead me to miss this small, but important sentence hidden near the very end.

"The history of oil drilling has seen constant improvements in efficiency, and I would expect the trend to continue, allowing companies to make more profits from oil selling for $50 to $60 a barrel."

Hey, now that's a reason to invest in Exxon and Chevron! I should be the very last person to criticize writing style, but I wish this was the main point from the beginning and not that commodities aren't worth investing in.

I'm still going to stick with my small investment in USO, an United States oil fund. I'm going to hope that Glassman is right about oil prices going up. I'll combine that with a long time to wait for the volatility to work in my favor.

The future has a month or two of an oil crisis in it, doesn't it?

Posted on April 14, 2015.

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