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Oil Sees Strong Start to 2018 in 4 Years: ETFs to Play

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Oil prices had their strongest start since January 2014 on the first trading day of 2018. Both West Texas Intermediate (WTI) and Brent opened the year’s trading above $60 per barrel buoyed by anti-government protests in Iran, the ongoing cuts in oil supply and falling greenback. Notably, the U.S. dollar started the New Year with a whimper, falling to the lowest level since mid-September against the basket of currencies.

Global oil market has already been on its way toward balancing, draining out the excess inventory through the historic OPEC output cut deal. The OPEC, Russia and other producers started cutting production in January last year and are poised to continue for the whole of 2018. Additionally, accelerating global economic growth since the financial crisis, with a consumption boom in both developed and emerging markets especially in China, has raised the appeal for the commodity (read: 7 Biggest ETF Stories of 2017 to Continue in 2018.

Moreover, the return of the state of backwardation (where later-dated contracts are cheaper than near-term contracts) in the oil market after three long years is acting as the biggest catalyst for the commodity. This signals that the oil market is tightening and demand is robust, paving the way for an oil rally. Given strong fundamentals, a portfolio manager at Natixis Asset Management expects oil prices to hit $80 per barrel by the end of 2018. However, rising U.S. production, which is on the brink of hitting 10 million barrels per day, is somewhat dampening the outlook.  

How to Play?

Investors seeking to deal directly in the futures market could look at United States Oil Fund (USO - Free Report) and United States Brent Oil Fund (BNO - Free Report) . The former seeks to match the performance of the spot price of WTI while the latter provides direct exposure to the spot price of Brent crude oil on a daily basis through future contracts. USO gained 0.5% on the first day of trading and BNO was flat (read: Oil ETFs Head-to-Head: BNO vs. USO).

For stock-loving investors, betting on energy stocks could be a solid idea. PowerShares S&P SmallCap Energy Fund (PSCE - Free Report) gained the most, climbing 3.2% on the day, followed by gains of 2.8% for SPDR S&P Oil & Gas Exploration & Production ETF (XOP - Free Report) and 2.4% for First Trust Energy AlphaDEX (FXN - Free Report) . PSCE offers exposure to the small-cap segment of the energy sector while XOP targets the oil and gas exploration and production segment.

Meanwhile, FXN follows an AlphaDEX methodology and ranks stocks in the broad energy space by various growth and value factors, eliminating the bottom ranked 25% of the stocks. PSCE has an unfavorable Zacks ETF Rank #4 (Sell) while the other two have a Zacks ETF Rank #3 (Hold).

Investors seeking to make outsized profits by taking higher risk could go for leveraged ETFs. Direxion Daily S&P Oil & Gas Exploration & Production Bull 3x Shares (GUSH - Free Report) topped the list, climbing 7.5% on the day. It offers triple exposure to the daily performance of the S&P Oil & Gas Exploration & Production Select Industry Index. Direxion Daily Energy Bull & 3x Shares (ERX - Free Report) , which creates a triple leveraged long position in the Energy Select Sector Index, gained 5.1%.

However, investors should note that the leveraged products are extremely volatile and suitable only for short-term traders. Additionally, the daily rebalancing, when combined with leverage, may make these products deviate significantly from the expected long-term performance figures (see: all the Leveraged Equity ETFs here).

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