This is an example on how you will use ETFs to trade in commodities, without the use of futures and physical oil contracts.

The following Stock is a product of ProShares Trust ProShares Ultra/Short DJ-UBS Crude Oil, a little description from Google’s finance site:

Description
ProShares UltraShort DJ-UBS Crude Oil (the Fund), formerly known as ProShares UltraShort DJ-AIG Crude Oil, seeks daily investment results that correspond to twice (200%) the inverse (opposite) of the daily performance of The Dow Jones—UBS Crude Oil Sub-Index (the Index). The Index, a sub-index of DJ—UBS Commodity Index, is intended to reflect the crude oil segment of the commodities market. The Index consists of futures contracts on crude oil only. The Index is valued using the settlement prices for the underlying futures contracts.

Let’s give 3 scenarios:
1) Perfect and Wonderful scenario. No Hedge involved. You think Oil prices reached its low.

- Entered Long UCO.
- Oil prices increases
- UCO gains
- Sell UCO, locked in Profits
- Oil drops to low again
- Long UCO
- Oil prices increases
- Sell UCO, lock in Profits

Clearly this is the perfect scenario we looking for. As an not so experience trader, we know such things won’t happen. It may happen 2,3,4,5 times. But it ain’t gonna happen forever.

2) Perfect and Wonderful scenario. No Hedge involved. You think Oil prices reached its high.

- Entered Long SCO.
- Oil prices drops
- SCO gains
- Sell SCO, locked in Profits
- Oil increases to high again
- Long SCO
- Oil prices drops
- Sell SCO, lock in Profits

2nd perfect scenario. Being a shorting expert, you know when the demand and supply is, and probably base on reported crude supplies reserves and event driven news, your short works.

3) With Dollar Averaging (Either long or short)

- Entered Long UCO.
- Oil prices increases
- UCO gains
You decided to hold the gains
- Oil drops to low again, UCO stock rice breaks even
- Oil drops further.
- Instead of cutting loss, load the boat, Long more positions of UCO !
- Oil tests for new low for low prices.
- Hold, do nothing (Keeping in mind price movements.)
- Oil prices increases and moves further either by fundamentals or economy
- UCO gains, sell, lock in profits

This is another perfect scenario if you are bullish on Oil prices, but cannot determine the low of Oil, so instead going in at once, you go in in multiple times. Keep in mind Commodities are need for each and every business, and it definitely cannot drop too low too fast, unlike equities for companies.

After mastering this, I’ll blog in my next posts, how to hedge against market risks with the use of the 2 ETFs, as well as using statistical arbitrage to profit risk free.