With oil topping $100/barrel again, I need to make a point about investing in stocks. 

The Problem

A lot of people invest in stocks–through mutual funds, their 401(K)’s, or buying shares in individual companies.  Some of the stocks they buy are in companies that depend heavily on energy.  These energy-dependant companies include airlines, car companies, businesses with large office buildings, food companies, chemical manufacturers, and companies involved in transportation services.  When the price of energy goes up, the value of one of these companies goes down.  It has to raise its prices to offset its increased expenses.  Consumers are forced to buy less, and that decreases the company’s sales.  Poor performance leads to less demand to buy stock in that company.  The result?  The stock drops, and your portfolio plummets in value.

It gets worse.

What makes this problem worse is that this oil crisis isn’t going away.  This isn’t some cyclical boom that will adjust itself in the next couple of years.  This is a problem of supply and demand.  In the next 10-15 years, conventional oil production will peak, and the production of oil will no longer be able to meet demand.  There will be less oil, and the global population will continue to increase.  A lot less supply.  A lot more demand.  Have you ever imagined oil at $10 per gallon?  That is where we are headed. 

The value of your stocks (particularly 401(K)’s and baby boomers’ retirement funds) will decrease, and one of your most basic expenses (gasoline) will increase threefold.  If the U.S. doesn’t develop some alternative energy sources or tap into the oil along its continental shelf, this is going to be a disaster.          

Assuming that this is where we’re headed, there are two strategies you can take to minimize this dreaded result: (1) investing in smart companies with strategies for dealing with the energy crisis, or (2) investing in oil companies.

1) Invest in companies that are smart.

The first strategy is investing in companies that have a strategy for dealing with this energy crisis.  Companies that find ways to keep their expenses down while dealing with the skyrocketing price of oil will sustain their performance and prevent their sales from dropping.  Most investors don’t look at companies with this level of detail, and that is unfortunate.  You should have a firm grasp and deep knowledge of the companies in which you buy stock.  This includes understanding how companies approach these types of problems.  Companies that (a) hedge against the costs of raw materials, (b) are more efficient, or (c) use other sources of energy generally survive better than companies that failed to account for the current crisis.

2) Invest in oil companies.

If you don’t feel like researching stock after stock to see which companies are smarter or better than others, you can go straight to the source and buy stock in oil companies (Exxon Mobil, Chevron, etc.).  The environmentalists will think you’re evil.  Other people might make you feel guilty.  You’re essentially profiting from other people’s misery.  But you have to be a realist.  Market forces are propelling oil skyward, and you have no control over that.  Thus, you might has well profit from it.  You’d be buying stock in a company that is having and will continue to have record sales.  Moreover, because this oil crisis isn’t going away, the value of these companies will go up.  Higher oil prices results in higher sales, and better performance results in more demand to buy stock in these companies. 

Hedging

Another point is that, by investing in oil companies, you’re hedging against the increased costs of gasoline and other products and services affected by the rising cost of oil.  Thus, when the price of gasoline continues to go up, you won’t care because you’re protected by your investments.     

You should get in the game before you’re priced out.

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