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Topic: Penny Stocks

Oil penny stocks are a risky way to play volatile and uncertain oil markets

If you plan to invest in oil penny stocks, you need to know what makes oil markets tick.

Oil optimists assume that demand for oil will grow indefinitely as more and more people around the world buy cars. Oil supply can also keep on expanding indefinitely, thanks to technological advances that have opened up vast new oil reserves in shale deposits around the world. Still, environmental regulations make it difficult to tap into these deposits in some areas, and political turmoil in the Mideast and Venezuela make future supplies of conventional oil more erratic and uncertain.


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How to think about oil penny stocks from the perspective of a famed investor

John Templeton, a 20th century investing master, once said, “The four most dangerous words for an investor are ‘This time it’s different.’” What he meant was that the market goes through recurring cycles of optimism and pessimism, and that prices rise and fall in response. It’s dangerous to let yourself get caught up in a tide of optimism or pessimism and take it to mean the world has changed.

However, you need to remember that these four words are also easy to misapply. The underlying cycle of optimism and pessimism never disappears, but circumstances and fundamentals do change.

That’s especially true with oil. The market for fungible goods—like oil—are especially unpredictable, and oil penny stocks are even more unpredictable due to the speculative nature of penny stock investments.

Oil penny stocks depend on rising oil—but that’s far from a certainty

Oil shot up into the financial stratosphere in the early 1970s, partly because of political developments. Since then, its price has repeatedly gone through dramatic moves, up and down. After each plunge, prices rebounded sharply. It’s easy to assume the same kind of rebound will follow the next plunge.

That’s because improving technology has opened up vast new potential oil sources. In the past, much of the world’s oil came from big underground pools, mainly concentrated in isolated areas such as the Mideast, where corrupt, volatile and arbitrary governments were common.

The new technology produces oil from shale, a form of rock. Oil-bearing shale deposits are common and widely spread around the world.

The new technology continues to face political and economic obstacles. Costs, however, are likely to fall even further as the new technology keeps on getting better. And it’s just a matter of time before oil production from shale becomes common around the world. With oil production spread out rather than concentrated, oil prices will generally be lower and less volatile. So a further rise in oil prices is far from certain.

Trends that impact oil prices and the prices of oil penny stocks

Politics, weather and market sentiment will determine whether oil users stock up on oil, or cut down on new buying while they use up existing inventory. This can have a big impact on oil-price trends.

No matter how intently you read the news on oil, you won’t gain any worthwhile advantage. You have too much competition. This market is simply too big and too widely traded for anybody to figure it out.

Most investors should consider holding some oil stocks as part of the Resources component of their portfolio—but overall, now is a particularly good time to stick to our three-part Successful Investor approach: Invest mainly in well-established, mostly dividend-paying stocks; spread your money out across most if not all of the five main economic sectors; downplay or avoid stocks in the broker/media limelight.

So, should you invest in oil penny stocks?

My advice is to maintain some exposure to the oil industry as part of the Resources segment of your portfolio. But resist any urge to go overboard, particularly in high-risk oil investments such as junior oils, futures, options and so on. That’s always good advice, but especially now. They are as risky as ever, but they may fail to thrive in a slow oil recovery.

Markets like these are so enormous that there is no practical limit to how much you can trade in them. It follows that if you could predict them, you could wind up acquiring a measurable proportion of all the money in the world, and nobody ever does that. That’s why it’s a mistake to build your portfolio in such a way that you have to accurately predict the future direction of fungible goods like oil.

Instead of investing in oil penny stocks, invest in sound Resource companies that will gain from rising production and cash flow, rather than commodity-price predictions.

Do you think it’s worth the risk to invest in oil penny stocks?

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