I can tell that summer is fast approaching by the warming weather, the blooming flowers and the flip-flops making their way back to the streets.
The U.S. Energy Information Administration (EIA) is getting ready for summer, too. And in their latest report -- released on March 8, 2011 -- they warned American drivers that regular-grade gasoline retail prices will average $3.75 per gallon this summer, with a 25% likelihood of breaching the $4 per gallon mark.
Furthermore, the report has the average gasoline price for the entire year increasing from $2.79 in 2010 to $3.56 in 2011. That's a whopping +27.6% year-over-year increase (ouch!), and substantially higher than the $2.96 last year's forecast predicted for 2011.
Traditional Oil & Gasoline Plays
Remember the summer of 2008, when crude prices were near $150 per barrel? While the rest of us looked on in horror as fuel prices skyrocketed, ExxonMobil (NYSE: XOM) laughed all the way to the bank, raking in record profits.
Owning stock in companies poised to take advantage of rising oil and gasoline prices can be a pretty smart move. The stock market has an uncanny ability to forecast moves in oil prices, implying that a stock like Exxon should be a long-term position if you think increasing oil prices are a long-term trend.
Exchange traded funds (ETFs) are another easy way for individuals to participate in rising gas prices. For example, if you want the advantages of owning the commodity without having to actually, physically own the commodity, the U.S. Gasoline (NYSE: UGA) tracks gasoline future contracts.
While UGA is a great pure play on gas prices, there are some drawbacks to consider. First, UGA's value suffers when gasoline is in contango (contango occurs when future prices are higher than current prices). Even though gasoline is not in contango right now, it is a potential trap for unwary investors. Second, because UGA is organized as a partnership, tax documentation can be a little confusing come tax time. Though there's not much you can do about the contango problem, you can solve the tax problem by holding UGA in a tax-advantaged account like an IRA or HSA.
[Learn more about ETFs in our InvestingAnswers Feature: Strategies That Yield Steady Gains.]
Straightforward plays like Exxon and UGA appeal to many investors. But if you're looking for a little more income "oompf," then maybe it's time to look at some companies known for serving up high yields.
The Income Investor's Darling
Master limited partnerships (MLPs) are a great for income investors who want to hedge higher energy prices. The vast majority of MLPs are in the energy business, owning and operating networks that transport, process and store crude oil, natural gas and petrochemicals.
Investors are attracted to MLPs' highly stable business model, the high yields (often double-digits), and their ability to hike distributions every year. Many of these high-yielding businesses, such as Pioneer Southwest Energy Partners (NYSE: PSE), have business segments focused on production, processing and shipping of crude and natural gas. While this exposure to natural gas means the units won't move in lockstep with rising crude or gasoline prices, their high yields may certainly be worth the trade-off.
[More on MLPs in our InvestingAnswers Feature: Master Limited Partnerships: A High-Yield Favorite for Growing Dividends.]
Thinking Outside the Box
Gasoline is made from oil, right?
The next generation of ethanol, made from grasses and plant material (cellulosic ethanol) is being developed as we speak. But the catch is that cellulosic ethanol production isn't possible without enzymes, and only a handful of firms have developed those enzymes, including Dyadic International (OTC: DYAI) and Verenium (Nasdaq: VRNM).
These are high-risk plays, and are not for everyone. Dyadic, with a market cap of just over $65 million, is a very small company with stock that trades over the counter. I would not even consider investing in this space without educating myself thoroughly. If you are interested in learning more, my colleague, Andy Obermueller, has written extensively on cellulosic ethanol and the opportunities it's creating.
With a wide range of options available to proactive and savvy individual investors, the summer of 2011 can be different from the summer of 2008. This time, you may be the one laughing all the way to the bank.