Photo by midorisyu
To hedge is “any technique designed to reduce or eliminate financial risk; for example, taking two positions that will offset each other if prices change” (Word Net Search).
One of the things that many of us have realized is that gas prices go up and gas prices go down. The following chart from GasBuddy illustrates how much gas prices fluctuate:
Anyone who budgets (which I hope is all of you readers) knows that prices of gasoline fluctuate so drastically and that makes budgeting very difficult. The gas burden increases the more you drive. This why in the middle of 2008 everyone was complaining about the exorbitant price at the pump. But, don’t be uniformed, gas prices will go back up again – they always do.
So how can you budget consistently and effectively while anticipating gas price drops and increases?
- Set a reasonable monthly budget for gasoline based on an average year’s worth of gasoline expenditures. If you would rather be conservative you could even add 10% to that total amount.
- Each month where you have a surplus (extra) in your gasoline account, purchase a gasoline related ETF (Exchange Traded Fund) or mutual fund. Each month where you have deficit (not enough) in your gasoline account, sell a gasoline related ETF or mutual fund for the amount of your shortage.
Here is why it works:
The following is a performance image taken from TD Ameritrade for Fidelity Select Energy Services (FSESX). Notice how similarly this chart mirrors the gas prices chart (the one above).
When gasoline prices are low (as they are now) you will be having extra gasoline money left over every month. You then use those funds to purchase that dollar value worth of gasoline while prices are low. When, however, prices increase and you need more money to pay your higher gas prices, you can sell your oil and gas shares knowing those prices will also be high. That is why this is called hedging – there is an advantage to prices dropping and increasing, and you are exposed to less risk.
What are the disadvantages to this form of hedging?
- It is essential that you budget, track expenditures, and follow through. For many people hedging simply is not worth the effort.
- You might incur a lot of fees. Those fees might offset the savings. If, for example, you are only investing $25 each month, it is hardly worth the investment fees. You would need to consider your gas prices and your brokerage fees.
Is there an easier way to hedge gasoline prices?
Yup. While prices are lower, be sure you are saving the excess towards future fill-ups. It is not required that you invest in an oil and gas ETF or mutual fund, especially if you have a smaller gas budget. But, at the very least, you should (1) set the budget, and (2) keep the excess when prices are lower so that you will have something left for when prices go back up.
You know, this reminds me of a Bible story. Remember when Joseph stored up during the years of plenty for the years of famine?