Investing in oil with ETF-options

Goldman Sachs recently slashed its forecast for crude oil prices in New York as concerns that the global credit crisis could lead to weaker demand outweighed supply constraints.

Analysts at Goldman cut its three-month benchmark West Texas Intermediate crude oil estimate to $115 a barrel from $149.

However, in their opinion the crude market is 'substantially oversold' and current prices present 'compelling buying opportunities'.

In Goldman's opinion oil will rebound in the fourth quarter because of strong demand as US refineries restart operations, speculators return to the market, OPEC cuts output and China purchases more crude after running down stockpiles.

Investors who agree with this analysis and consider the current oil price (around $100) a nice buying opportunity might enter (indirect) long positions via ETF's. In my previous column I introduced Electronic Traded Funds which offer a derivatives alternative. Besides Long ETF's, Short ETF's are available in order to profit from a fall in prices.

I highlight a Long ETF which tracks the WTI-future: United States Oil fund (USO). On USO, options are listed, which offers an extra investment dimension. Due to the big swings at the oil market, Implied volatility is relatively high: Around 60%.

With a reference of WTI-future (November-contract) of $99,50, USO is traded at $80,25. The USO OCT 80/90 callspread can be bought at 4,20-1,00=$3,20. This spread costs 3,20*100= $320. (Theoretical) maximum profit is $680 (($10-$3,20)*100). Beware that the expiration date is 17 October. The break-even-point is $83,20 whereas maximum loss will be $320.

On the contrary, a bearish opinion that oil price will drop even further, could be expressed by buying naked puts, which gives the right to sell USO at a fixed price.

Another possibility is to buy a putspread, limiting exposure but also limiting risk. The USO OCT 80/72 putspread can be bought at $2,80 (3,90-1,10). The BEP will be $77,20. The theoretical maximum profit is $520 (($8-$2,80)*100), with an investment of $280 per spread (excluding transaction costs).

In short, many possibilities are available to invest in the oil market: Crude underlying, futures, Long and Short ETF's and/or options or a combination of these instruments.