No…the gasoline ETF is not flammable. Sorry.
We all know what gasoline is…what we pay for at the pump, what makes airplanes or cars go, what (for some) allows us to cook our food or keep the heat on in our homes.
Gasoline is also a commodity and thus, tradable.
The most popular gasoline product in the world is /RB or RBOB Gasoline Futures contracts. The gasoline futures contracts can be traded all over the world in US Dollars from Sunday at 6pm est to Friday at 5pm est.
Here is what makes trading gasoline challenging for the individual investor…
The contract size for one futures contract in the /RB gasoline futures is 42,000 gallons of gasoline or $70,035 per contract. That is very big for a lot of individual retail traders.
But you might be saying, “I can handle that!” Well…let’s break it down then. Right now /RB is trading for 1.6668 per contract and each tick value (smallest price movement) is equivalent to $4.20. Not terrible. However, the expected daily move in gasoline futures is about 3% per day.
If we take the current price of /RB (1.6668) and take 3% of that we get the daily expected move in this gasoline futures contract. That would make the daily expected move about 500 ticks. 500 ticks times $4.2 = $2100 is the expected daily P/L in the gasoline futures contract. That is very large. And if that’s not bad enough, the exchange requires traders to put up $5,115 in margin per contract so we are looking at an expected profit or loss to be between up or down 40% of your initial margin requirements per day.
For those who feel like this is very large for one contract (it is), is there a gasoline ETF we can look at that might give us the same gasoline exposure without having to have way too much capital at risk?
$UGA…The Gasoline ETF
If we want to see if trading the gasoline ETF $UGA is a viable solution to trading gasoline, we must look at two factors. These factors include correlation and liquidity.
For starters, we want to see if we are going to get similar price movements when trading $UGA (the gasoline ETF) compared to the /RB RBOB Gasoline Futures contracts. We want exposure to gasoline, right?
Here we see a chart over the last year of gasoline futures (green/red line) compared to the gasoline ETF $UGA (pink line). Something like this in incredibly important when looking as possible ETF’s as a substitute for futures contracts as a handful of ETF’S that are based on futures do not have similar price movements at all. Just take a look at crude oil if you don’t believe me.
Fortunately for those interested in getting ETF exposure to gasoline, we have an incredibly positive correlation. Correlated is the comparison of price movements. The closer the correlation is to 100, the more correlated. If we would like to try to find something that can get us similar exposure to gasoline futures, we would have to find something that has at least a 75 correlation. Those who are rooting for the gasoline ETF here will be happy to know that $UGA and /RB trade with an 89 correlation. This would make our correlation test pass with flying colors.
While correlation is important, liquidity is ultimately the deciding factor. Without liquidity, we are likely to have to open our position with a loss and be unable to defend ourselves if the position goes against us. This is something that is unacceptable and we avoid at all costs.
The first part of deciding if the gasoline ETF $UGA has strong liquidity would be looking at the bid and the ask of the stock. We can see that during trading hours, the spread is about $0.05. Not terrible and definitely tradable.
What about stock volume? Highs stock volume in the gasoline ETF $UGA would let us know that there are institutions and money managers active here. What do we have?
69,093 shares trades today is beyond puny. That is equivalent to only $1,865,511 of notional value exchanged today. This number is embarrassingly low and a clear sign that there is a hard zero interest from institutions here.
What about options? Option volume would show us the ability to hedge our position as well as if there is institutional interest.
Absolutely terrible. 226 total contracts traded today with only a $610,200 notional value combined. Not only do no institutions trade $UGA, but nobody cares about it at all.
Is the Gasoline ETF a Viable Options
Hell no. While it does have very high correlation and would thus give us exposure to gasoline without having to trade a large futures contract, it has zero liquidity and thus needs to be avoided at all costs.
While there are no ETF’s that we believe have a high positive correlation that is worth using as a replacement here, we do see that $GDX (Gold Miners ETF) has a -90 correlation to /RB.
As you can see here, the blue/green line of /RB has a-90 correlation to the pink line ($GDX). Rather than trading that horrible gasoline ETF, we suggest trading $GDX inversely of gasoline. If you think gasoline can go higher, get short $GDX.