If you’re a regular Daily reader, you already have your risk-management protocol in place. You keep appropriate position sizes, you employ trailing stop losses, and you maintain a diversified asset allocation. With your risk under control, you may already hunger for new opportunities to profit from oil market volatility.

After all, you’ve often seen us highlight market overreactions in the past. We’ve used them to snag quick profits. We’ve also used them to buy into great businesses on the cheap.

But before you take action, there’s one question you must ask every time a setback arises: Is this a one-time, serious but solvable problem… or something more?

Teeka Tiwari, editor of Mega Trends Investing (MTI), addressed this question in November’s “Monthly Minutes” update. Here’s what he said about the oil rout’s effects on MTI shale oil play Carrizo Oil & Gas (NASDAQ: CRZO):

 

According to its most recent filing, the company still makes a 39% return even at $70-per-barrel oil prices. Today, crude oil trades for $75. These numbers suggest that Carrizo is pulling oil out of the ground at an average cost of $42 per barrel.

These are great numbers, and if oil prices stabilize at this level, all will be well. But what if they don’t? I promised you that I’d spend time analyzing what was going on with oil. My research has uncovered troubling developments in the oil sector…

What we are seeing is the beginning of a systemic change in the oil landscape. That’s very different from a one-time, company-specific, solvable problem [emphasis added]. We are at risk of a real secular change in the oil markets. And that is why I have decided to raise our profit-protecting stop.

On Monday, Teeka sent out an alert to all Mega Trends subscribers. The global oil shock triggered Carizzo’s stop loss. His concerns proved accurate. MTI subscribers exited the position with a slight gain.

Exiting trades in this way is never fun. But our risk-management discipline demands we obey our stop losses. Failure to do so could mean a catastrophic loss of capital inside a volatile oil environment.

As Teeka says, once the oil market stabilizes (and it will), fabulous new investment opportunities will present themselves. Maintaining our stop-loss discipline ensures we’ll have the capital available to take advantage of those opportunities… when everyone else is selling out at the bottom.