An exchange-traded fund, or ETF, can be a great way to get exposure to an industry or sector that you think will outperform. That being said, most ETFs are filled with a lot of stocks, some of which aren't the greatest investments and can affect your returns. Worse yet, there are several oil ETFs that attempt to simply track the price of the commodity but have poor track records, as few can accurately track the day-to-day movement of oil prices. That's why I think investors are better off creating their own oil ETF.
That's especially true if you want to profit alongside the explosive growth of American oil production. While it's a bit more effort than simply buying an oil ETF, the potential reward is also much greater. In buying the following five stocks as part of a basket, you'll make your own oil ETF that has the potential to outperform any other ETF on the market.
Bring on the Bakken
There are a number of great Bakken-focused companies to choose from for your oil ETF. However, if you're looking for a gusher in terms of oil production growth, then Kodiak Oil & Gas is the name you'll want to know. For the past three years the company has grown its production by triple digits. Not only that, but Kodiak is well on its way to do it again this year, thanks to its plans to spend well over $1 billion in both organic and acquired growth opportunities. With more than 950 future drilling locations and a solid balance sheet, Kodiak will be producing American oil far into the foreseeable future.
Pioneering the Permian
The Permian Basin is like the gift that keeps on giving for oil producers. As the third largest oil producer in Texas, Pioneer Natural Resources is one of the many companies benefiting from this great oil play. The great thing about this company is that it has tremendous reserve potential thanks to new discoveries the play. If its estimates prove correct, the company's total reserves of 1.1 billion barrels of oil equivalent could grow exponentially to more than 9 billion barrels of oil equivalent, thanks in part to the discovery of more oil in the Permian, which represents a potential increase of 7 billion barrels of oil equivalent reserves to Pioneer. With the potential for 40,000 additional wells, Pioneer has a lot of room to grow as it produces oil-levered returns for our American-made oil ETF.
Don't miss The Miss
While the play isn't as oily as the Bakken or the Permian, the Mississippi Lime formation has the potential to produce a lot of growth for investors in SandRidge Energy . In fact, SandRidge is so excited about its position in The Miss that it sold all of its Permian Basin assets to reinvest that capital to grow its production here. Overall, SandRidge is planning to grow its oil production in the play by 64% this year and sees the potential for 11,000 future drilling locations. When you add it all up, SandRidge has a lot of upside, as well as an interesting catalyst, making it a great oil stock for your homemade ETF.
Source: SandRidge Energy.
Eagle Ford and so much more
Sure, this next company is the nation's No. 2 natural gas operation, but it's aggressively growing its oil production. In fact, Chesapeake Energy grew its oil production last year by 84% over 2011. That growth has been thanks in part to its outstanding position in the Eagle Ford, where it was able to increase its liquids production by more than 250% over the previous year. Looking ahead, the company has a 10-year drilling inventory of more than 3,500 locations in that play, as well as oil and NGL upside from its positions in the Utica, Mississippian, and Granite Wash. While Chesapeake will probably never be known as an oil company, it's still a great American energy company.
Balancing growth with oily income
So far, all of the companies on this list are focused on aggressively growing oil production. While LINN Energy is also fairly aggressive in its growth, when compared with the rest of the names on this list, it's rather tame. The big difference here is that LINN is structured like an MLP, meaning the company pays out a very large distribution to its investors. Currently, the company is yielding more than 9%, making it a great income stock for our oil ETF. Not only that, but LINN is getting even more oily as it nears closure of its deal for Berry Petroleum. The deal will add a lot of high-margin California oil as well as bolster the company's oil-levered position in the Rockies and Permian Basin.
Foolish bottom line
While I'm sure most investors would rather purchase an oil ETF and be done with their oil exposure, these five companies have the potential to outperform any oil ETF. Buying a basket of oil companies and creating your own American oil ETF also gives you more control over performance. Not only that, but it will instill in you the pride of ownership, which really flies in the face of today's approach of high-speed trading and stock-ticker flipping.
If you're intrigued by the idea of investing in an oil stock directly instead of an oil ETF, let me recommend drilling down deeper into Chesapeake Energy first. The company has built a tremendous asset base and has exciting upside to natural gas. To learn more about Chesapeake and its enormous potential, you're invited to check out The Motley Fool's brand-new premium report on the company. Simply click here now to access your copy.
The article Create Your Own American-Made Oil ETF With These 5 Stocks originally appeared on Fool.com.
Fool contributor Matt DiLallo owns shares of Linn Energy and SandRidge Energy and also has short September 2013 $5 puts on SandRidge Energy. The Motley Fool has options on Chesapeake Energy. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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