What Are Oil ETFs?
Oil ETFs attempt to track the price of crude oil using futures contracts. Unlike energy sector ETFs that hold stocks of oil companies, oil ETFs like USO hold actual oil futures contracts to provide direct commodity price exposure. This distinction is critical because oil ETFs behave very differently from energy stock ETFs — and they come with unique structural challenges that most investors do not fully understand.
The concept sounds simple: buy an oil ETF, profit when oil prices rise. In practice, the mechanics of futures-based oil ETFs create persistent drags on returns that can cause these funds to dramatically underperform the actual price of crude oil over time. Understanding these mechanics is essential before investing a single dollar.
Oil ETFs are among the most commonly misunderstood investment products. Many investors buy them expecting simple oil price exposure and are shocked to discover that their ETF has lost money even as oil prices rose. The culprit is contango and the monthly futures roll process.
How Oil ETFs Work: The Futures Roll
Since you cannot store barrels of crude oil in a fund vault, oil ETFs use futures contracts — agreements to buy oil at a specific price on a future date. The most common approach, used by USO, buys the front-month (nearest expiration) WTI crude oil futures contract.
Here is the problem: each month, the expiring contract must be sold and a new future-month contract must be purchased. This is called "rolling." When the futures market is in contango — meaning future-month contracts cost more than near-month contracts — the ETF sells low and buys high on every roll.
Contango is the normal state of the oil futures market because storage costs, insurance, and financing make it more expensive to hold oil for future delivery. This means the monthly roll is usually negative, creating a persistent drag on oil ETF returns that compounds over time.
Major Oil ETFs Compared
USO — United States Oil Fund
USO is the largest oil ETF, originally designed to track front-month WTI crude oil futures. After the 2020 oil market crisis, USO restructured to hold a mix of maturities rather than concentrating in the front month. It charges 0.60% and remains the most widely traded oil commodity ETF. Despite its popularity, USO has significantly underperformed the actual spot price of oil over its lifetime.
UCO — ProShares Ultra Bloomberg Crude Oil ETF
UCO provides 2x daily leveraged exposure to crude oil futures. It combines the structural challenges of oil futures (contango drag) with the mathematical challenges of daily leveraged products (volatility decay). UCO is strictly a short-term trading instrument and has lost the vast majority of its inception value through these combined effects.
BNO — United States Brent Oil Fund
BNO tracks Brent crude oil futures rather than WTI. Brent is the international benchmark and can sometimes have different contango characteristics than WTI. BNO charges 0.84% and provides an alternative to USO for investors wanting non-U.S. crude oil exposure, though it faces similar structural challenges.
The April 2020 Oil Crisis
The dangers of oil ETFs were laid bare in April 2020 when WTI crude oil futures briefly traded at negative $37.63 per barrel — an event previously thought impossible. Oil storage capacity was nearly full as pandemic lockdowns crushed demand, and sellers paid buyers to take physical delivery of crude they had nowhere to store.
USO suffered catastrophic losses and was forced to restructure its approach. The fund shifted from holding purely front-month contracts to spreading across multiple maturities to reduce concentration risk. This event demonstrated that oil futures can behave in extreme ways that stock investors may not anticipate.
The 2020 crisis was the most dramatic example, but the underlying structural challenges existed before and continue after. Oil ETFs remain imperfect vehicles for long-term oil price exposure.
Better Alternatives for Oil Exposure
If you want portfolio exposure linked to oil prices, several alternatives avoid the structural problems of futures-based oil ETFs:
Energy sector ETFs (XLE, VDE): These hold oil company stocks that benefit from higher oil prices through increased profits. They pay dividends, avoid contango, and capture value from good management. The correlation with oil prices is high, though imperfect.
Oil company stocks: Individual shares of ExxonMobil, Chevron, ConocoPhillips, and other producers provide oil-linked returns without futures complications. You can research specific companies on our ETF directory.
Broad commodity ETFs: Funds like DBC include oil alongside other commodities, providing diversified commodity exposure rather than concentrated oil risk.
The only scenario where oil futures ETFs like USO might make sense is for very short-term trades (days, not weeks) when you expect a specific near-term catalyst for oil prices. Even then, the bid-ask spread and daily tracking costs make this an expensive proposition. For any holding period beyond a few days, energy sector ETFs are almost certainly the better choice for oil-linked exposure.
Understanding the Track Record
The numbers tell the story clearly. Over the decade ending in 2024, crude oil prices roughly doubled from certain low points. Yet USO's share price was down significantly over similar periods, with contango drag consuming returns that should have been positive. This massive underperformance illustrates why oil ETFs are fundamentally broken as long-term investments.
Leveraged oil ETFs like UCO have even worse track records, as they compound contango losses with volatility decay. An investor who held UCO through an oil price increase might still have lost money due to these combined structural headwinds.
Before investing in any oil ETF, compare its historical performance against the actual spot price of crude oil. The divergence will make the contango problem immediately apparent. For long-term oil exposure, energy sector equity ETFs remain the far superior option.
