By: Matt McFarland, Associate at Kay Properties & Investments
With any and every investment comes risk. Investors everywhere are continually trying to balance the risks of an investment against the potential rewards. As a national leader in DST 1031 Exchange and real estate investments, Kay Properties is constantly presented various investment opportunities to offer our clients. We do not and will not participate in an oil and gas investment, as the inherent risks greatly outweigh the potential rewards and do not align with our investment philosophy.
Here are a number of risks at play with investing in oil and gas programs:
- High Operational Costs: “Everyone in the energy industry is suffering as crude oil prices have slumped…it’s hard to make money when the cost of producing oil is higher than the sales price.” 1
- Supply and Demand Risks: “Both crude oil and petroleum product prices can be affected by events that have potential to disrupt the flow of oil and products to market…the volatility of oil prices is inherently tied to the low responsiveness or “inelasticity” of both supply and demand to price changes in the short run.” 2
- Extraction Cost Risks: “Finding oil and gas to replace the world’s fast dwindling reserves is increasingly risky as rigs probe areas once seen as too difficult or too dangerous, and costs are rocketing, which could imperil future supply.” 3
- Geological Risks and Barriers: “Drilling where there are no known reserves is called exploratory drilling. Exploratory, also called “wildcat” drilling, is a risky business with a very high failure rate.” 4
- Political Risk: “Much of the world’s crude oil is located in regions that have been prone historically to political upheaval, or have had their oil production disrupted due to political events.” 2,5, 9
- Potentially High Fees: “In several cases the SEC alleged misrepresentations about what the invested funds were going to be used for. Misrepresentations and omissions about uses of the investors’ monies included (i) paying big sales fees to brokers, (ii) the nature and size of compensation to the promoter and employees of the venture, (iii) operating and other expenses for unrelated businesses and (iv) using the money to pay for personal items 6
- Fluctuating Oil Prices: “The distinction between different oil demand and oil supply shocks has far-reaching implications because each shock has different effects on the US economy and on the real price of oil.” 7
- High Number of Fraud Cases: “The number of fraud cases related to private securities offerings for oil and gas ventures has increased over the last few years. From few in 2005 and 2006,the number of SEC cases has averaged more than 20 per year since. State securities regulators have experienced a similar increase in cases over the past five years. 6
- Environmental Risks: “Maryland’s governor has proactively stopped fracking before it could ruin the state’s water, air and communities.” 8
The ethos of our firm is to potentially avoid risk through avenues of avoiding higher risk asset classes such as oil and gas, hospitality and senior care, staying debt free if possible, diversification*, specialization, and partnering with some of the best in-class real estate institutions in the country. For more in-depth overview of why we choose to avoid oil and gas, please reach out to your Kay Properties contact as well as visit www.kpi1031.com.
Sources:
1) https://money.cnn.com/2015/11/24/news/oil-prices-production-costs/index.html
2) https://www.eia.gov/finance/markets/crudeoil/spot_prices.php
4) https://www.nationalgeographic.org/encyclopedia/petroleum/
5) https://www.aljazeera.com/ajimpact/oil-price-war-nightmare-shale-producers-200309173245129.html
6) https://www.sec.gov/files/ia_oilgas.pdf
7) https://www.wto.org/english/res_e/publications_e/wtr10_forum_e/wtr10_kilian_e.htm
*Diversification does not guarantee profits or protect against losses.