🛢️ Crude Oil
🛢️ Crude Oil
Crude oil ETFs hold futures contracts that expire monthly, creating dynamics that don’t exist in equity ETFs. Understanding the futures curve is essential — it determines whether holding an oil ETF helps or hurts you.
Contango vs. backwardation
This is the most important concept for trading oil ETFs.
Contango (Bad for Long Holders)
| Aspect | Detail |
|---|---|
| Curve shape | Upward sloping (front < back months) |
| ETF impact | Negative roll yield — sell low, buy high |
| Result | USO can lose 30-50% vs spot over time |
Example: 2009-2014, oil rose ~48% but USO fell 39% due to persistent contango.
Backwardation (Good for Long Holders)
| Aspect | Detail |
|---|---|
| Curve shape | Downward sloping (front > back months) |
| ETF impact | Positive roll yield — sell high, buy low |
| Signal | Tight physical market — bullish |
How to check
Compare CME WTI front-month vs 2nd-month:
- Front > 2nd = Backwardation (favorable)
- Front < 2nd = Contango (unfavorable)
ETFs compared
| ETF | Strategy | Expense | Best For |
|---|---|---|---|
| USO | WTI front-month | 0.60-0.79% | Short-term; backwardation |
| BNO | Brent front-month | 0.84-1.14% | International exposure |
| USL | WTI 12-month avg | 0.84% | Reduced roll cost |
| DBO | Optimum yield | 0.75-0.77% | Active roll optimization |
Which ETF for which curve?
| Curve Shape | Best ETF |
|---|---|
| Backwardation | USO, BNO |
| Contango | USL, DBO |
| Uncertain | XLE, XOP (equities instead) |
USO vs BNO
| Aspect | USO (WTI) | BNO (Brent) |
|---|---|---|
| Benchmark | West Texas Intermediate | Brent Crude |
| Pricing point | Cushing, Oklahoma | North Sea |
| Use when | US-focused view | Global exposure |
Key drivers
| Driver | Bullish | Bearish |
|---|---|---|
| OPEC+ | Production cut | Production increase |
| EIA Inventory | Draw | Build |
| Geopolitics | Middle East tensions | Resolution |
Seasonal patterns
| Phase | Timing | Pattern |
|---|---|---|
| December low | Mid-December | Seasonal bottom |
| Spring rally | Dec → May | Refiners stock up |
| Summer peak | Around July 4th | Driving season |
| Fall decline | Sep → Dec | Post-driving season |
Common mistakes
- Holding USO long-term — Roll costs destroy 20-30% annually in contango
- Ignoring the curve — Check before every trade
- K-1 complications — Most oil ETFs issue K-1s; check tax structure
Leveraged oil ETFs
Leveraged ETFs rebalance daily. This causes volatility decay over time — they’re for short-term trading only.
| ETF | Strategy | Expense | Best For |
|---|---|---|---|
| UCO | 2x WTI (Bloomberg index) | 0.95% | Amplified short-term oil bets |
| SCO | -2x WTI (Bloomberg index) | 0.95% | Short-term bearish oil bets |
UCO mechanics
UCO targets 2x the daily return of the Bloomberg Commodity Balanced WTI Crude Oil Index. It achieves leverage through:
- Swaps (~85% of exposure) — Agreements with Goldman Sachs, Société Générale, Morgan Stanley, UBS, Citi
- WTI Futures (~55% of exposure) — April, June, and December contracts spread across the curve
The Bloomberg index spreads exposure across three roll schedules (monthly, June annual, December annual) to reduce roll concentration risk.
UCO vs USO
| Factor | UCO | USO |
|---|---|---|
| Leverage | 2x daily | 1x |
| Expense | 0.95% | 0.60-0.79% |
| Decay risk | Higher (leverage + contango) | Contango only |
| Best use | 1-5 day directional bets | Short-term trading |
| Options | Yes | Yes |
When to use leveraged oil ETFs
| Situation | Use |
|---|---|
| High conviction, short timeframe | UCO (bullish) or SCO (bearish) |
| Holding > 1 week | Avoid — decay compounds |
| Contango environment | Strongly avoid — 2x the roll loss |
Quick reference
| Situation | Best Instrument |
|---|---|
| Short-term trading | USO, BNO |
| Backwardation | USO, BNO |
| Contango | USL, DBO, or avoid |
| Leveraged bullish (days) | UCO |
| Leveraged bearish (days) | SCO |
| Long-term oil exposure | XLE, XOP (equities) |
Don’t buy and hold USO or UCO — they’re for trading, not investing. UCO compounds both leverage decay AND contango losses. When in doubt, use energy equities instead.
For trading signals and ratio interpretation, see Energy Market Signals.
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