Have you been enjoying the sharply-reduced cost of gasoline this year? Lower petroleum prices add up to slick savings for the typical American; but in the back of your mind, there's that nagging thought… “This isn't going to last.”
You are probably right. Oil prices are notoriously cyclical, what goes up tends to go down, and vice versa. Proving this to be true, gas prices began to tick up this month, reaching a six-month high on May 2 according to the AAA Daily Fuel Gauge Report, though the average national price of about $2.22 per gallon is still substantially lower than prices we saw in 2013 and 2014.
The good news is there are ways to capitalize on the cyclical nature of oil prices and make the benefits of lower prices last longer.
The bigger “savings” picture
First of all, what kind of money are we talking about here?
According to the Energy Information Administration, nearly 5.2 billion barrels of oil are used in the United States annually for non-commercial, non-industrial uses such as driving around or heating your home. That amounts to about 21.34 barrels of oil for every adult in the United States.
Over the two years ending April 30 of 2016, oil prices dropped by $53.82 per barrel, to $45.92. Multiplying that price decline by the 21.34 barrels of per capita oil consumption in the U.S. results in an annual savings of $1,148.34 for the typical American.
Of course, your actual savings will vary depending on your fuel-consumption habits, but the point is this: The savings from lower oil prices can add up to significant sums. Still, a better question is: Can you make that money last once lower prices go away?
Don't get used to it
Yes, $45 dollar a barrel for oil is nice, but don't get lulled into thinking it is normal. Several times over the past 10 years oil has thrown a scare into consumers by surging past the $100 a barrel mark.
From a historical perspective, oil has averaged $53.26 in today's dollars over the past 30 years, so current prices are 15 percent below normal. Adjusted for inflation, the highest month-end price during that period was the equivalent of $145.85, so oil can be more than three times more expensive than it is today.
It is true that new production techniques have brought substantial new sources of oil online. But at the same time, global population and economic growth have boosted total demand over the long term. Past norms may not apply precisely to the present, but it is worth noting that the current price of oil is lower than average, and that peaks have been substantially higher. In other words, consumers would be well cautioned not to get used to the current price of oil … because it may not last.
How to make your savings from lower oil prices last
Here are some ideas for how you can get some lasting benefit even if today's lower oil prices prove to be temporary:
- Refuel your savings account. Low interest rates have slowed returns on savings accounts, money market accounts, and certificates of deposit in recent years, so what better way to refuel those returns than with the savings from lower oil prices? Even after lower fuel prices go away, the money you save could still be earning interest. You can make the most of that lasting benefit if you shop to find the most competitive bank rates around.
- Top off your retirement plan. Like many today, you may be a little behind on your retirement saving. Spending less money on fuel is a great opportunity to catch up, a move that could further amplify the money saved by benefiting from retirement plan tax deductions and/or the employer match available on some 401(k) plans. If you are aged 50 or over, you can even make extra contributions such as an additional $1,000 a year to an IRA and an additional $6,000 to most 401(k) plans. This would be an excellent way to earn a long-lasting benefit from the money you are saving from lower oil prices.
- Burn down your debt. While you have the option of earning interest on savings accounts or investment returns on retirement accounts, another productive way to use the extra dollars that low oil prices put in your pocket is to retire any outstanding debt you have. In particular, credit card debt is a good candidate for this. The average credit card balance is paying 13.70 percent in annual interest. Even if lower oil prices prove to be temporary, retiring high-interest debt with your fuel savings can have a substantial and lasting benefit.
Each of the above actions will leave you with some lasting benefit even after oil prices rise. And making constructive use of the money you are saving from lower oil prices now will also do something else that's very important — it will stop you from simply absorbing that extra money into the amount you spend from week to week. That way, you won't find yourself in a deeper financial hole the next time oil prices move higher.
Now, about that hybrid…
One thing you don't hear as much about when oil prices are down is buying a hybrid car, a diesel vehicle, or other alternative-fuel vehicle. If it's time to replace an old vehicle, for instance, this could be a smart financial move.
Gas-savers tend to get very popular when petroleum prices are high, and less so when prices are low. However, think about this instead — it might be time to buy when gas prices are low.
Buying a hybrid or similar vehicle always comes down to weighing the trade-off between the higher price (compared to a conventional vehicle) you are likely to pay for the car and the gas savings you will recoup in the years that follow. That decision always comes down to the specific numbers involved, i.e., there is no universal right or wrong answer.
However, when hybrids are in heavy demand, there can be waiting lists for them and extra premiums attached to their prices. Between higher purchase costs and delays in reaping the gas-conservation benefit, this can make the trade-off work less in favor of hybrids at the time when people want them the most.
In contrast, when gas prices are low and hybrids aren't quite so hot, it may well be a better time to buy them. You might be able to get a more reasonable price, and be positioned to start benefiting from better fuel economy immediately in case gas prices start to rise.
“Sustainability” is a popular word with environmentalists. Whether it is buying a hybrid or making financial moves that have lasting benefits, you should think about how to make the current dip in gas prices more sustainable for your finances.
If you reworked your budget when gas prices started going down, what did you do with your savings? Can you think of other ways to make this windfall last?
Author: Richard Barrington
Richard Barrington, CFA, is a 20-year veteran of the financial industry, including having served for over a dozen years as a member of the Executive Committee of Manning & Napier Advisors, Inc.