Investing in Oil and Gas

Investing in stocks is a fool proof way against inflation. If you are holding the stock for long time,  the stock should increase with inflation over an extended period of time, providing you safety against inflation.  What are the factors you should consider for investing in Oil and Gas sector.

Value of the Stock.

Like anyother stock, befor jumping into the stock, first asses the value of the stock. Why the stock is valued so high or so low?   A good indicator of an oil stocks value is the oil stocks price earnings ratio. If the price earnings ratio is greater than 20, we would suggest you further investigate why the oil stocks price earnings ratio is so high. If it is due to an aggressive growth strategy including a recent land acquisition or a large drilling program that is to take place in the future, attempt to determine the impact these events will have on the oil stocks earnings. In a lot of cases the future event’s impact on the oil stock will not be what the investment community foresees.

Trust Unit versus Common Share

There are a significant amount of oil and gas stocks which have converted to become trust units. The main purpose of these oil stocks becoming trust units is to save and defer tax to unitholders. However, the distributions that these oil stocks (trust units) pay out require a significant amount of cash flow and therefore reduce the growth capability of the specific oil stock. Therefore if you are looking for an oil stock which will provide you with steady cash flow than an oil stock which is a trust unit is your choice. Whereas if you would like to hold an oil stock in your portfolio which has a high growth potential you should stay away from oil stocks which are trust units. This is because normal public company shares usually do not pay out large dividends to shareholders as they prefer to reinvest their hard earned cash in their capital program. Oil and gas capital programs include purchasing land, mineral rights, drilling programs etc., all of which are more likely to generate shareholder value rather than just paying these funds out to unitholders.

Natural Gas versus Oil

Investors should be aware what percent of their oil and gas stocks interest is in natural gas versus oil. This is important as if you buy a natural gas focused oil and gas company and the price of natural gas is at an all time high then this is probably not the time to buy. However this is probably a good time to consider selling depending on what commodity experts feel the price of natural gas will do in the years/months to come. The price of Oil and is much volatile as we witnessed recently. In year 2008-2009 alone we have seen that the price of natural gas and oil has been reduced by 50%. If you are planning on holding your oil and gas investment for an extended period of time then do not fret too much about the commodity prices as they should increase with inflation over an extended period of time. If you are buying and selling oil and gas stocks for short periods of time, then commodity prices become extremely important as you can make a significant return in a short period of time.