Home Beginner Market Structure Investing In Energy Sector? Here’s Everything You Need To Know!

Investing In Energy Sector? Here’s Everything You Need To Know!

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Introduction

The energy sector is one of the sectors of the stock market. Stock companies are usually arranged into sectors such as Energy, Financials, Utilities, Consumer Discretionary, Consumer Staples, Healthcare, Industrials, Technology, Telecom, Materials, and Real State. They are categorised in this manner so that it becomes convenient to analyse them, define which companies lead which sector, and also see if a particular sector’s activity is growing or shrinking. Indexes on each sector determine their performance, and also, through ETFs serve as investing vehicle.

What is the Energy sector?

As the name suggests, the energy sector is involved in the production and distribution of energy. Here, the term energy is mainly associated with oil and natural gas. This sector includes companies which extract and develop oil or natural gas reserves, and oil or natural gas drilling and refining.  However, most often, energy is primarily used to refer to oil, as it has been one of the most important global energy resources. This being true, it is also necessary to not forget other energy resources as well.

The performance of the energy sector stocks is purely based on the supply and demand for energy resources worldwide. As the oil and gas prices rise, the producers of this sector are highly benefitted with its rise. Contrarily, their revenue reduces when there is a fall in the commodity market. The ones benefitted with the fall in the oil prices are the oil refiners because a decrease in the prices of oil reduces their cost of production for petroleum products such as gasoline. Besides, political events play a quite significant role in the changes in the oil price as well.

Composition of the Energy Sector

Oil companies

The first thing that clicks in one’s mind when we refer to the energy sector is oil. Integrated oil companies are quite popular among many investors. Also, these oil companies can be considered as leaders in this sector.

Natural gas companies

The operations of these companies are very similar to Oil companies. Often, companies that are involved in the production of oil are also involved in the extraction and production of natural gas.

Energy services companies

These are the service companies which primarily provide equipment and technical maintenance to drillers, both onto dry land and in deep-water operations.

Energy infrastructure companies

These are the companies that provide pipeline and storage services to industries and are usually formed as master limited partnerships (MLPs).  Also, these companies typically pay out generous dividends. However, investors should have an eye on the tax implications of investing as well.

Reasons to invest in the Energy Sector

There are different motivations to invest in this sector. The Energy sector is always in demand and is expected to grow continuously. Therefore, it provides many opportunities for investors to profit in this always developing economic area. Given below are some reasons to invest in the energy sector.

Value of the sector

The energy sector is the most valued market segment throughout the world. It is worth $7 trillion globally. Out of the ten highest-earning revenue companies in the world, nine of them operate under the energy space. As the energy industry generates more revenue than any other industry, investing in this sector can be more promising compared to other sectors.

The future statistics

According to the International Energy Agency (IEA), the demand for energy will grow more than 30% globally by 2035. By then, the oil prices are also expected to ascend to $125 per barrel. Moreover, demand the electricity is predicted to grow at a much faster rate than energy consumption, leading to a hike in the electricity prices by 15% by 2035.

Income and Growth opportunities

Investing in the energy sector can help accomplish one’s investment goals. Integrated oil and gas companies pay a dividend to their investors, pipeline operators and MLPs offer regular income payments, and other oil and gas startup explorers can generate immense profit if the investor is prepared to bear some risk.

Complimentary benefit

An energy sector investor plays the role of an environmentalist as well. Investing in companies that promote energy efficiency can be beneficial to the investor’s portfolio as well as the planet, as the funded capital is utilised by the companies to come up with smarter techniques to produce electricity with few emissions.

Risks involved in investing in the Energy Sector

Market volatility

The oil stock prices are quite volatile, which makes it risky for investors to pour in a significant amount of money into the market. Price volatility usually depends on the economic, geographical and political factors. Therefore, adequate research must be done before stepping into the market.

Scams

Many frauds have taken place in this sector, mainly in the oil sector. The Financial Industry Regulatory Authority (FINRA) has observed a continuous trend in scams involving energy stocks. People invest in these companies and later realise that the company does not even exist.  Therefore, proper research about the company, its products, and its history is vital before investing in a stock.

Instability in the government

Change in the political dynamics impacts the oil prices significantly. Oil companies have to invest in places where oil and gas can be extracted efficiently. If the companies invest in areas whose government is unstable, it can affect the stock prices severely. Therefore, before investing, it is necessary to ensure that the oil company is not operating in an unstable government.

Energy Sector and ETFs

Investors looking forward to investing in this sector, but lacking sufficient knowledge about the sector, can consider investing in the ETFs. ETFs are funds which do not focus on a single stock but instead focuses on the entire sector. These funds, unlike the mutual funds, can be traded in the market as well.

Some of the top performing ETFs in the US are

  • Energy Select Sector SPDR Fund
  • Vanguard Energy ETF
  • SPDR S&P Oil & Gas Exploration & Production ETF
  • iShares Global Energy ETF
  • VanEck Vectors Oil Services ETF

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