Is Natural Gas About to Break Higher?

Do equity markets lead commodity markets? Or perhaps more precisely do commodity equities lead the underlying commodities themselves? Our experience suggests that commodity equities lead the behaviour of commodities. Towards the end of last year we noticed that oil and gas services stocks bottomed even in the face of a plummeting oil price. This suggested to us that the downside in crude was very limited and that one should be looking at buying into the falling crude price.

We now find a similar situation arising with natural gas and natural gas stocks. Oil and Gas pipeline stocks such as Enbridge (EEP), Williams Co (WMB), Spectra Energy (SE), and Kinder Morgan (KMP), now appear to have formed solid bases and more importantly they remain virtually unchanged this year even when natural gas itself has fallen by some 40%.

More compelling from a fundamental perspective their valuations do not appear to be demanding. So there are two ways of playing “natural gas”. One can buy the underlying commodity itself (either via futures or the ETF UNG) or one can play the next best thing – natural gas stocks.

However, if one was somewhat bearish on natural gas itself why not consider pipeline stocks or other natural gas plays (like Chesapeake (CHK), Nicor (GAS), or Sempra (SRE))?

Of course there is another option and that is oil and gas drillers/services themselves (OIH). Which option will prove to be the most profitable? Of course only time will tell!

We have seen finer technical patterns before, however, from a long term perspective the three charts above appear bullish enough for us. They appear to have done enough work to establish a strong base from which we see material upside. This action should drag natural gas higher.

The foregoing "analysis" may seem rather simplistic but often that is all that you need especially when you have time on your side.

Disclosure: Long UNG, CHK, KMP, SE, OIH

Comments

[A Barrel Full:]

No.

Jul 20 09:20 AM

[Evanbobh:]

And why would gas prices, which trade on the Nymex and are linked to options, futures, etc, go higher just because the stock of a driller or producer was driven up artificially? This makes no sense - particularly when there are 2-3 bcf/day (about 6-8% of US production) excess production capacity in the Rockies. Only a very cold winter, an increase in the economy, and a few more rigs shutting down will actually drive the prices up.

Jul 20 09:50 AM

[przem23:]

I'd wait 2-3 more months

Jul 20 10:59 AM

[Windsun33:]

Of course it will - the question is when. Gas has long been a series of of large swings as demand/inventory over compensate. Right now it is in the over compensate for high inventory mode by shutting down lots of wells. In a few weeks/months it will go the other way.

Big question is when, and will it go down further before that happens.

Jul 20 01:00 PM

[Daily Trading:]

Interesting to note that there is not one comment supporting Thomas MacLeod's thesis. This is a contrary sign in itself and confirms why prices are so low for Nat Gas. We concur with MacLeod.........the market is suggesting something and the market is the ultimate judge.

Jul 20 10:17 PM

[pockyclips ...:]

I agree with Przem; wait 'til mid to late September, when folks start lighting the pilot on their heaters. And hope the global warming folks are wrong.

Jul 21 08:59 AM

[FitBusiness...:]

I would be cautious to invest in anything that may be soon controlled by the govt.

Jul 21 09:33 AM

[Dave Dorgan:]

The 50 and 200 day moving averages are both sloping upward for XNG, and both moving averages are sloping downward for Natural Gas futures. Should the tail start wagging the dog? Or, are we looking at two different species of dog?

Jul 21 10:00 AM

[Fred W:]

You can't have it both ways. All of these "bad" market conditions are well known, and as such, can be reasonably assumed to be priced into the market.
The "unknowns" are what will drive the price of NG. (Weather and the fate of GHG legislation)
NG will not be "given" away...low prices result in lower price movements even if they are perceived as "big" percentage moves. 10% of $3 vs. 10% of $8 equates to a $0.30 or $0.80 movement in price...almost a 300% change in deltas


On Jul 20 09:50 AM Evanbobh wrote:

> And why would gas prices, which trade on the Nymex and are linked
> to options, futures, etc, go higher just because the stock of a driller
> or producer was driven up artificially? This makes no sense - particularly
> when there are 2-3 bcf/day (about 6-8% of US production) excess production
> capacity in the Rockies. Only a very cold winter, an increase in
> the economy, and a few more rigs shutting down will actually drive
> the prices up.

Jul 21 10:41 AM

[WYSisn'tEve...:]

Cap and Trade legislation threatens to increase the tax on all fossil fuels including coal, oil, and natural gas. Electricity costs and many costs related to the price of energy and electricity could significantly increase. As fossil fuel costs increase, alternative energy could become more affordable by comparison.

Jul 21 10:58 AM

[ksmithdc:]

Agreed 100% with WYSisn'tEve.

Jul 21 11:31 AM

[Storm Cat:]

" Our experience suggests that commodity equities lead the behaviour of commodities"

Come on. Can this website get an experienced commodity trader to write about Oil & Gas for once. This premise borders on the ridiculous. Equity traders that watched oil collapse to $35 from $145 simply started accumulating oil & oil related stocks figuring the bottom must be near. Most traders buy/sell based on expectations. The risk/reward of getting long oil related equities when oil is trading $35 doesn't require a PhD from MIT.

Jul 21 11:32 AM

[User 457588:]

"The risk/reward of getting long oil related equities when oil is trading $35 doesn't require a PhD from MIT."

Especially when you Wolfram and Hart, er, I mean Goldman-Sachs on your side...

We all saw gasoline rise >4% in one day simply because a GS guy said so. But what the hell, what's good for Goldman is good for America. right?

Jul 21 02:19 PM

[wallyjm:]

natural gas can be used in almost all cars,buses etc. i thought we were going to get off of imported oil and go to cheaper domestic energy such as natural gas.

Jul 21 02:22 PM

[MSimon:]

"Only a very cold winter, an increase in the economy, and a few more rigs shutting down will actually drive the prices up."

Expect a very cold winter. Sunspot activity is still at a minimum and the PDO is still negative. ENSO is expected to be weakly positive.

In fact if you are a long term thinker the IPCC says that the PDO (driver for 60 year climate cycles) will be negative until 2020. Other scientists believe the cooling will last until 2030 (based on the 30 year half cycle with cooling beginning in 2000).

American food production could well decline due to shorter growing seasons (seen already in 2008 and 2009) mitigated to some extent by increased CO2 in the atmosphere.

What am I saying in general? Short Global Warming. It has been over hyped. i.e. a bubble.

BTW I have no position in any market except when I go to the store to buy food.

Jul 21 02:40 PM

[MSimon:]

" Cap and Trade legislation threatens to increase the tax on all fossil fuels including coal, oil, and natural gas. Electricity costs and many costs related to the price of energy and electricity could significantly increase. As fossil fuel costs increase, alternative energy could become more affordable by comparison."

If Cap and Trade is enough for solar and wind to reach parity, energy prices would have to sustainably double or triple. That would wreck the economy. (Notice what $4 oil did to us - high energy prices lead to crashes)

My prediction? Cap and Trade will not make it out of the Senate. It only passed the House by one vote. It is wildly unpopular among the voters. A LOT of Cong Critters are takin heat over it. Mark Kirk in Illinois is one. Michael Castle from Delaware is another - you can watch voters give him heat on YouTube.

The Senate will not pass the Bill unless China goes first. China is not going first.

Jul 21 02:51 PM

[John Bowman:]

"My prediction? Cap and Trade will not make it out of the Senate. It only passed the House by one vote. It is wildly unpopular among the voters."

I hope you are right.

Jul 21 04:15 PM

[Henry Buttal:]

A couple of points here; the opening stock list, loaded with pipelines, is more about delivery than supply and exploration.

IMHO, nat gas prices will stay fairly low over the next 6 months, with a small rise in price due to winter demand. I wouldn't expect to see anything close to rebound prices in the next year plus.

Longer term, since we are talking about AGW and Cap/Trade/Tax/whatever, it is interesting to note that almost every model you look at that focuses on reducing carbon emissions has....(wait for it)...Natural Gas as an increasingly important fuel, and growing in usage to make up the short fall in applications like base load in electricity when you contemplate a (picture perfect) future with reduced coal consumption.

It will take several years, but the long term is good for nat gas no matter what scenario you believe in...short term, not so much.

Jul 21 06:25 PM

[Turnipseed:]

The combustion of natural gas emits almost 30 percent less carbon dioxide than oil, and just under 45 percent less carbon dioxide than coal per unit of energy (source- naturalgas.org), so it is one of the quickest and cheapest ways to reduce GHG's. This will increase natural gas consumption over the next couple of decades. Short term - I don't know, but longterm outlook for producers and pipelines is very favorable.

Jul 21 06:44 PM

[ktchnsnk:]

now may be a good time to cover those shorts!

Natural gas vehicle research bill passes House
US House reauthorizes natural gas vehicle research program

* By Murray Evans, Associated Press Writer
* On Tuesday July 21, 2009, 7:34 pm EDT

OKLAHOMA CITY (AP) -- A bill to reauthorize a Department of Energy program for natural gas vehicle research, development, demonstration and deployment won overwhelming approval Tuesday in the U.S. House.

The legislation, which passed 393-35, heads now to the Senate where it is expected to garner support, said Rep. John Sullivan, an Oklahoma Republican who sponsored the bill.

finance.yahoo.com/news...

Jul 22 12:50 AM

[Leser:]

Thanks, everyone who commented above, as well as the author, Thomas MacLeod. I appreciate the information and perspectives and in particular the civil way your stances were expressed.

Jul 22 09:15 AM

[geofisher1:]

The question is where are we going from here, and I agree. Cycles in price, supply, and demand are natural and the most sucessful way to make money in nat gas / oil is to buy @ 5 yr and 10 yr lows (they don't come around very often). If you are a medium term investor, now is the time to load up on nat gas pipelines and smaller E&P guys. Watch out for the push to outlaw fracking, as it will shut down 30% of oil and 50% of current nat gas wells - forget Haynesville if that happens. New pipelines xcountry will open up new areas for gas comptition - ie new pipeline from Rockys to Chi-town and Haynesville to FL. Interesting times and I'm long nat gas - DMLP, EPD, APA, ATPG, GMXR, GO.TO. Just my humble opinion

Jul 22 11:27 AM

[rc trader:]

why would there be a push to outlaw fracking? this is clearly still the driver of continued high production even in the face of a greatly reduced rig count


On Jul 22 11:27 AM geofisher1 wrote:

> The question is where are we going from here, and I agree. Cycles
> in price, supply, and demand are natural and the most sucessful way
> to make money in nat gas / oil is to buy @ 5 yr and 10 yr lows (they
> don't come around very often). If you are a medium term investor,
> now is the time to load up on nat gas pipelines and smaller E&P
> guys. Watch out for the push to outlaw fracking, as it will shut
> down 30% of oil and 50% of current nat gas wells - forget Haynesville
> if that happens. New pipelines xcountry will open up new areas for
> gas comptition - ie new pipeline from Rockys to Chi-town and Haynesville
> to FL. Interesting times and I'm long nat gas - DMLP, EPD, APA, ATPG,
> GMXR, GO.TO. Just my humble opinion

Jul 22 12:05 PM

[Mad Hedge F...:]

You need a nice hurricane for this to happen, or possibly approval of a new share issue by UNG. ) When I put out my sell recommendation on natural gas at $4.30, (SEE www.madhedgefundtrader...) the virtual trucks backed up to dump abuse on me from technical analysts, day traders, and wannabe pundits who were convinced that CH4 was the buy of the century. I also received a ton of e-mails from geologists, wildcaters, and gas men from all over the country with stories of even more, vast, unreported, shale discoveries. One in British Columbia I didn’t even know about. When it comes on betting my own money, I much prefer listening to engineers who spend countless hours driving pickups down dusty, potholed, washboard roads to get their data, than the online diletants, any day of the week. Best to watch the pain and suffering in the natural gas space from afar.

Jul 22 01:57 PM

[geofisher1:]

www.npr.org/templates/...

Fracking is bad for the water table (or so they say), but needed to get the stuff out of shale. With the "Greens" in charge, keep a close eye on this one as it will have an impact on production and future drilling. Remember the push to get offshore drilling when oil was @ $150? - now the Greens are in charge again of our energy policy. I can't believe that a huge windmill farm in Nantucket Sound is any more unsightly than oil rigs off the CA/FL coast.

Jul 22 03:31 PM

[ManAboutDallas:]

All three charts are forming beautiful cup-and-handle patterns; 'nuff said.

Jul 22 04:32 PM

[THofler:]

Yet another way to get long nat gas is via the Chesapeake convertible preferred CHK-D. Should have a sizeable equity upside if nat gas takes off & pays you well while you wait. I have a small position & will add to it if it gets hammered.

Interesting stuff about the eco hazards of fracking. While the CO2 output of nat gas fired plants is lower than the other fossil fuels, I am concerned about the Global Warming potential of the raw nat gas (methane) which is extremely high.

Will pipeline companies get hit with high GHG cost under cap and tax?? Will they have to account for every cubic foot of gas?

Jul 22 09:49 PM

[geofisher1:]

"Yet another way to get long nat gas is via the Chesapeake convertible preferred CHK-D. Should have a sizeable equity upside if nat gas takes off & pays you well while you wait."

I just looked @ this and find it interestingly overpriced. $100 convert value, 2.3 shares common @ conversion price of $44, 4.5% coupon, cumulative. Current common price is $21.50, common yield is 1.5%, prf yield is 6.7%. Intrinsic value is $47 (21.5 * 2.3), but it trades @ $67, for a premium of 40%, with an added 5.2% cash yield. In addition, max cap gain is to $130, or 94% gain, as the co can force conversion over $130.

I think if you like CHK, buy the common, or wait for a premium closer to 10% (my personal target for convert prf)

Jul 22 11:26 PM

[Doomdog:]

watching SJT, sold this one in Jan 2008 for a lot more, if gas has bottomed, this will pay out more and more in the years to come.

Jul 22 11:58 PM