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A Beginner's Guide to Energy Trading

14 minutes
intermediate
Cristian Cochintu
Cristian Cochintu
05 June 2024

Energy trading is undoubtedly a huge industry, regardless of whether you're interested in making investments in the energy sector, trading energy commodities, or you are just curious. In this guide, we explore the fundamentals of energy trading, including how it works, the range of markets and assets, as well as the opportunities and challenges for an energy trader.

With a global market value of over $7 trillion, the energy sector is without question one of the most valuable on the planet. Ten percent of the global gross domestic product is generated annually by providing usable kinds of energy to the seven billion people on the planet.

In financial markets it is said that of the most fascinating markets to trade is the energy market. Anyone who keeps up with current affairs, geopolitical issues, and economics can potentially benefit from online energy trading, as energy prices are constantly fluctuating influenced by worldwide trends and occurrences. 

There is no secret that energy commodities including natural gas, crude oil, and electricity are being traded actively around the globe. Furthermore, business entities involved in the production, refining, transportation, storing, and consumption of energy are traded on global stock exchanges.

However, traders hoping to profit from the anticipated future expansion of the energy market should be cautious due to the industry's lack of predictability.

How to Get Involved in Energy Trading – Quick guide 

  • Select your energy markets – You can focus on the most traded energy commodities in the world, like oil and gas, or go further with companies that are involved in exploration, production and refining of any type of these commodities.
  • Define your strategy – You can speculate on energy commodities spot and futures prices by choosing to go short or long through CFDs. You can also trade CFDs on energy-linked stocks and ETFs or buy them outright.
  • Open your positioncreate an account with us to start energy trading today.

     

What is Energy Trading?

Energy trading refers to purchasing and selling different energy commodities, such as crude oil, natural gas, electricity, and wind power. Since there are many trading opportunities every trading session, due to rapid price changes and volume swings, this type of trading became very popular among traders. An energy trade means taking a position on price fluctuations in the various energy markets.

Although most of us are familiar with fossil fuels like diesel and gasoline, the energy industry is much more than just a means of transportation. The energy market includes not just fossil fuels but also electrical power, nuclear power, renewable energy, and natural gas liquids.

The energy market relates to both energy and the markets of the associated energy since energy cannot exist without a source and a carrier. It is a system of related energy industries, companies and organizations based on the unity of their functions of exploration, exploration, extraction (production), processing, transformation, storage, transport, distribution and consumption of energy and energy resources to meet populations and economy’s needs in terms of energy resources.

However, trading energy isn't necessarily speculative. Energy traders are frequently using it to hedge erratic energy index markets in the effort to maintain price stability and facilitate the smooth operation of the energy economy. 

How Does Energy Trading Work?

Energy trading between private companies or individuals was uncommon in the past. State-owned enterprises had long held a monopoly in the energy sector, controlling all aspects of the energy cycle, from energy generation to transmission and distribution to final customers. Trading took place, but only between state-owned companies. Given that many nations rely on imports, the oil trade may have been an outlier deserving of note. 

However, energy was viewed across the board as a scarce good to which trade liberalization regulations should not apply (or, if they did, there should be exceptions for protectionist measures).

Because energy assets are always in demand and supply, energy trading has become one of the most attractive types of trading. Crude oil is arguably the most traded commodity globally, with some of the largest blue-chip corporations, such as British Petroleum, ExxonMobil, Shell, or Chevron, ranking in the top ten by market capitalization.

Almost anyone around the world can invest in the leading energy trading companies’ stocks, as well as in well-known exchange-traded funds (ETFs), or trade energy commodities like crude oil, heating oil or natural gas.

Moreover, the need for renewable energy is growing as humanity fights climate change. Power markets changed because of the rise of renewable energy sources, which was accelerated by the instability of the fossil fuel markets following the pandemic and the Ukraine conflict. Investors that are looking to diversify their portfolios and reduce risks are motivated to consider green energy trading due to this shift in power capacity balance.

Energy Trading Markets and Assets

There is a wide range of energy assets available to trade and invest. Starting from popular energy commodities, like crude oil or natural gas, to investing in top energy trading companies through shares in the stock market, as well as popular ETFs. No matter your choice, it is important to keep in mind that each of these options carries a certain level of risk, so it is highly recommended to educate yourself before starting.

Trading Energy Commodities

Energy commodities trading in financial markets is often defined as purchasing and selling different financial instruments that replicate the values of energy commodities on global exchanges. While some of these may have a stronger correlation with the underlying commodity than others, most of the time these are financial derivatives that allow traders to speculate on the price movements of the underlying asset without taking ownership. Let’s take a closer look at the most traded energy commodities.

Oil

Oil trading is the buying and selling of different types of oil and oil-linked assets with the aim of making a profit. You can use CFDs to trade on oil futures prices, or the prices of oil-linked assets, without having to own any actual oil or shares of companies and funds.  
The main benefit is that you can trade in either direction by going long (open buy position), if you think the price will go up, or going short (open sell position), if you think the price will go down. Oil CFDs can also be used for hedging to reduce the risk for an existing portfolio.

Natural Gas

Since there is no way to simply purchase a physical supply of gas, online trading is the most popular option. CFD trading has the most favorable charge conditions and allows you to customize your personal investment strategy by choosing CFDs on natural gas, shares of natural gas stocks, or ETFs. 
Through CFD trading, traders can benefit even when the natural gas price falls - by opening short positions. However, energy traders should be aware that CFD trading involves a high risk and requires close monitoring.

Trading energy commodities is a relatively straightforward process, and it might sound simple. Predicting price directions with accuracy, however, can be a difficult task, even for a seasoned energy trader. It is crucial to have a well-planned strategy, a thorough understanding of how commodity markets operate, and carefully assess the factors influencing energy commodities prices.

Oil Forecast and Price Predictions 2024Natural Gas Forecast & Price Predictions 2024

Energy stocks

A different way to get involved ang gain exposure to the energy sector is by trading or investing in energy stocks. This is quite a wide spectrum, as companies engaged in the manufacturing, distributing, and retailing of energy commodities as well as companies involved in green energy sector are all are part of the giant energy stock market.

Exploration and production stocks

Companies that look and drill for oil and natural gas are among the most dynamic stocks in the space, as their prices are very responsive to short-term trends. A seasoned energy trader can potentially benefit from those prices’ swings. However, they can also be vulnerable to downturns in the market, which means there is a higher risk involved. Some of the so-called "oil supermajors" are Exxon, Shell, BP, Chevron and Total Energies.

Pipeline and refining stocks

For oil and natural gas to become a final product, like gasoline, it must be transported from the producing site and refined. Companies in this segment do quite well in favorable market conditions. However, when prices go down, that dynamic is reversed. Refiners can wind up charging less for their products than they cost to make. Some common players in this are Enterprise Products, Williams Companies and Cheniere Energy.

Integrated companies’ stocks

In contrast to the businesses that operate in a single area, an integrated oil and gas company is a commercial entity that engages in the exploration, production, refinement, and distribution of oil and gas. This can mean that their risks are spread out more broadly than companies that specialize in one aspect of the oil industry. Nonetheless, their prospects can vary considerably because of the price of oil.

Renewable energy stocks

Over recent years, clean energy has attracted more attention and funding, and it is anticipated that its share of the energy industry will increase. Giants like Tesla or First Solar are focusing on producing more electricity-generated cars, solar power for houses or clean energy for factories. Given the potential for large returns, renewable energy is currently one of the most popular energy trading sectors.

And this might be an excellent moment to look more closely at energy stocks as, after a year of negative returns in 2023, energy stocks are off to a strong start in 2024 due to the rising prices of natural gas and oil. Additionally, due to the exceptionally dynamic nature of the market and the tendency of traders to leap in during periods of rising oil prices or increased geopolitical tension, it has become a popular sector to trade in.

Traders can buy and sell energy shares in the stock market through share dealing, which involves buying shares outright and taking ownership of the underlying asset, or they can speculate on prices movements with CFDs on energy shares.

However, when trading and investing in energy stocks, it is crucial to carry out in-depth research, evaluate financial statements, and take the companies' both long and short-term prospects into account.

Energy ETFs

Another way to trade or invest in the energy market is through energy funds. For example, energy exchange-traded funds (ETFs) track the performance of assets connected to energy, such as energy stocks, energy commodities, or indices. This way, an energy trader can gain exposure to the energy sector without picking individual stocks or commodities. Usually, ETFs seek to mimic an index of international stocks within the energy industry.

Usually, traders are looking for these two types of energy ETFs:

Sector ETFs

These ETFs target specific aspects of the energy industry, like renewable energy, oil and gas production, and oilfield services. These exchange-traded funds (ETFs) give investors a wide exposure to the energy industry and let them build a diverse portfolio of energy stocks. Sector ETF examples include Energy Select Sector SPDR Fund (it tracks the performance of energy stocks in the S&P 500) or Vanguard Energy ETF (which offers broad-based exposure to the U.S. energy industry).

Clean Energy ETFs

Sustainable technologies, energy efficiency, and renewable energy generation are the primary goals of clean energy exchange-traded funds (ETFs). With these exchange-traded funds (ETFs), investors can target the renewable energy industry, which is predicted to grow significantly over the next several years. Among the most popular renewable energy ETFs we can mention iShares Global Clean Energy ETF (focuses on clean energy companies worldwide) or Invesco Solar ETF (TAN).

On the other hand, if you have a long-term investment growth plan in the energy sector, you may choose mutual funds that invest in companies operating in the energy and resources sector. These are open-ended equity schemes suitable for long-term investment options.

What Impacts Energy Prices?

Beyond market speculations there are several other drivers that affect the prices of energy assets, having the capacity to significantly impact energy trading by influencing the price of energy commodities. The main three influences on energy prices are supply and demand, geopolitics, and macroeconomic conditions.

Supply and demand

It is simple to figure out that supply and demand have an impact on energy prices by simply considering energy as a tradable product. The price of energy will usually increase when demand is high and supply is low, and vice versa. At its turn, energy supply is constrained by several considerations. For example, a severe cold season has the potential to cause a dramatic rise in energy prices. In contrast, during the Covid-19 pandemic, the demand for oil and energy assets fell as the global economy slowed and the oil price dropped sharply.

Geopolitics

The price of energy is significantly impacted by geopolitical events. Tensions and conflicts between nations can affect the availability of energy commodities, which, in its turn, can affect market prices. This became increasingly obvious especially during the conflict between Russia and Ukraine, when delays in the gas supply increased demand for other energy sources and pushed up the oil prices.

Macroeconomics

Energy consumption is influenced by consumer expenditure, industrial activity, and economic growth. A robust economy is typically associated with higher energy costs and consumption, whereas a weak economy may lead to lower prices and less demand.
Energy prices can also be influenced by interest rates. For example, a high interest climate can cause an economic slowdown and a subsequent drop in oil prices. In contrast, lower interest rates may lead to predictions of faster growth, more demand for oil, and higher prices.

While global growth plays a major role in setting energy prices, supply dynamics influenced by political developments or different organizations, such as OPEC, as well as technological innovations in extraction or production and alternative energy sources are also important factors in terms of energy trading.

Energy Trading Benefits and Challenges

Energy shares offer investors certain advantages and disadvantages. Many of the larger oil companies pay high dividend yields to their shareholders. Energy traders don’t receive cash dividends, but dividend adjustments are made to CFD accounts to ensure the accounts are brought up to fair value.

Energy Trading Benefits

Energy Trading Challenges

Hedge against geopolitics: Geopolitical conflicts are disrupting the supply chain which can push up energy commodities prices. At the same time, the pessimism in the market is causing stock prices to decline. Hence, trading energy commodities could help limiting losses for an existing investment portfolio.

Market complexity: Energy markets are complex and are influenced by many factors, such as weather, geopolitics, regulations, technology, and consumer behavior. All these factors can create uncertainty and unpredictability in energy assets prices.

Potential rewards: Despite the risks and challenges, energy trading also offers potential rewards, which basically means the opportunity to generate profits. Commodity derivatives, such as CFDs, provide exposure to a high trade value, for a tiny amount of money (margin). So, a small price change can lead to substantial potential gains.

Financial and regulatory risks: Energy trading involves financial risk, which means an energy trader can suffer potential losses due to adverse movements in energy prices. Regulatory risk, or the possibility of changes to laws, regulations, or policies that impact energy markets and prices, is another risk associated with energy trading.

Positive outlook for clean energy sector: Energy traders can capture value with energy transition. It is projected that the renewable energy sector will expand by 8% in 2024, 9% in 2025, and 40% more by 2030. This trend will drive trillions of dollars of investment, which might deliver some strong returns for energy traders and investors.

Funds asset concentration:  While diversification may represent one of the reasons to integrate energy trading in your portfolio, energy funds are mostly concentrated in very few assets. As a result, a change in the price of those assets can have a substantial impact on funds' global performance.

How to Become an Energy Trader

Before starting your energy trader career, it is crucial to do your homework and choose a trustworthy broker. If you are already an energy trader, you probably try to predict the changes in price of energy commodities or evaluate energy shares or funds in the stock market. Prior making any trades, you perform research applying fundamental and technical analysis looking to capitalize on short-term price fluctuations or trying to identify longer-term trends.

Here are 6 steps to take if you want to become an energy trader

Build some knowledge

Get familiar with the principles of energy trading. To improve your expertise, make use of educational materials including books, webinars, and online trading courses.

Develop a trading plan

Make a thorough trading plan which defines your trading objectives, risk tolerance, and the strategy. Develop a risk and money management plan, establishing your position sizing and entry/exit rules.

Choose a broker

Choose a trustworthy and highly regulated broker, such as Capex.com, that has a large selection of energy trading instruments, competitive costs, and a user-friendly trading platform.

Open a trading account

Proceed with the account opening procedure. Usually, this involves confirming your identification by some personal information and funding your trading account.

Take your position

You can start energy trading with real money once you are pleased with your trading strategy and have accumulated enough experience on a demo account.

Adjust your strategy

Remain disciplined, don’t get emotional, efficiently manage your risk and capital, and regularly assess and improve your trading strategy as necessary.

Conclusion

The fluctuating nature of energy markets could provide traders with intriguing opportunities. Whether you want to trade energy commodities directly, buy or trade energy stocks, or use energy exchange-traded funds (ETFs), it's crucial to make sure you do your homework and keep up with market trends.

Keep in mind that a variety of factors, such as supply and demand dynamics, economic indicators, and geopolitical events, may impact energy markets and cause unpredictability.

If you are considering starting energy trading, improving your knowledge about energy markets and the particularities of each energy asset might be crucial to your success as an energy trader.

Free resources

Before you start energy trading, you should consider using the educational resources we offer like CAPEX Academy or a demo trading account. CAPEX Academy has lots of free trading and investing courses for you to choose from, and they all tackle a different financial concept or process – like the basics of analyses – to help you to become a better trader or make more-informed investment decisions.  

Our demo account is a suitable place for you to learn more about leveraged trading, and you’ll be able to get an intimate understanding of how CFDs work – as well as what it’s like to trade with leverage – before risking real capital. For this reason, a demo account with us is a great tool for investors who are looking to make a transition to leveraged trading.

Sources

https://commodity.com/    
https://www.trade.gov/energy-industry   
https://www.justetf.com/  
https://www.iea.org/ 

FAQs about Energy Trading

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Cristian Cochintu
Cristian Cochintu
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Cristian Cochintu writes about trading and investing for CAPEX.com. Cristian has more than 15 years of brokerage, freelance, and in-house experience writing for financial institutions and coaching financial writers.