Investors over the last few years have seen massive commodities volatility, especially in energy. Oil has roller-coastered from 2007, with sky-high prices followed by an immense plunge a year later, only to rise to more than $100 again. High energy prices hurt economic growth, as money gets siphoned from consumers' wallets and companies offset rising costs. Are you ready for the next huge oil spike?
But what hurts your portfolio one way could also help it in another. After all, those rising costs are going into someone's pocket, and by positioning yourself correctly, it could be yours. Below, I highlight three reasons why energy has to be a significant part of your portfolio for the next half-century and offer a few companies that could capitalize on rising energy. Plus, I'll give you access to a special free report on three more stocks that will profit from $100 oil.
1. Geopolitical turmoil
The instability of many oil-producing regions keeps the market on edge. With the imminent withdrawal of U.S. troops from Iraq in December, even more instability could be around the corner. Iran is working to influence the area, and Saudi Arabia and others are becoming nervous. Some reports indicate that Saudi Arabia has been negotiating with other Muslim countries to create an informal alliance against Iran.
Any military conflict among large oil powers not only hurts the immediate production of oil, it also hurts the long-term supply, as my Foolish colleague Dan Dzombak shows. Many times these countries never return to their former production levels.
And there's plenty of turmoil besides that of the Mideast, with major producers such as Venezuela and Russia struggling with their own instabilities. Russia has taken steps against Royal Dutch Shell and BP
2. Global supply and demand
The U.S. and Europe continue to use prodigious quantities of oil -- way more than they actually produce. And many countries across Asia and Africa desire a Western lifestyle. Among them, China and India are growing rapidly, and that requires lots of energy. That incremental demand is putting serious pressure on oil prices. As The Economist notes, oil production has struggled to keep up with demand in the last decade. In fact, in 2010, for the first year ever, oil consumption exceeded production, eating into inventories.
The U.S. consumes about 25% of the world's oil production, while China is the second largest consumer, using less than half what America does. But the numbers are much more striking on a per-capita basis. The U.S. uses 12 times as much oil per capita, meaning that demand for that Western lifestyle in China will support oil prices.
3. Commodities trading
Speculation can drive huge volatility in energy, and energy ETFs that simply buy the next month's contract regardless of price can exacerbate price swings too. With the big banks scoring megabucks on commodities trading, you should expect more volatility in energy prices, which is good for banks' trading profits.
On with the countdown ...
All of those are good reasons that you should have energy as a significant component of your portfolio -- say, 10% to 15%. Energy can offer a great hedge, doing well when high oil prices hurt other companies. In particular, I like companies that can reward shareholders with dividends, which can add some stability to share prices. Some of the usual suspects come to mind:
|Royal Dutch Shell||4.8%|
Source: Capital IQ, a division of Standard & Poor's.
Each of these companies is a blue chip, pays a solid dividend, and has huge expertise and global operations. You probably can't go wrong with owning any of them. But that global diversity could also be problematic as competition for scarce resources heats up and oil-producing nations sometimes want to keep resources for themselves. Huge state-run companies such as Petrobras
It probably makes most sense to buy midcap or larger companies that have focused operations in less politically sensitive areas. SandRidge Energy
However, SandRidge doesn't pay a dividend, so if you need yield, you might want to pair it with an investment in SandRidge Mississipian Trust 1
Need more energy plays?
Of course, you'll need more than just a few energy players to fill out this sector of your portfolio and to get prepared for the next huge oil spike. So the Motley Fool has created a new special oil report titled "3 Stocks for $100 Oil," which you can download today, and it's absolutely free. In this report, Fool analysts cover three outstanding oil companies, including the stock Fool analyst David Lee Smith calls the "energy king." To get instant access to the names of the three oil stocks, click here -- it's free.
Jim Royal, Ph.D., does not own shares of any company mentioned. The Motley Fool owns shares of Petrobras and Harvest Natural Resources. Motley Fool newsletter services have recommended buying shares of Petrobras and Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.