U.S. production of natural gas is booming. A few years ago we seemed to be in a steady state environment for gas production, but now all that has changed. With the rapid and sustainable increase in U.S. natural gas production, prices have remained stagnant, however use is growing. Naturally, I am interested in looking at it from an investment perspective, so let’s give some thought to the future of natural gas and then look at ways to invest in it or in related areas. This chart illustrates what has happened in terms of domestic production:
Source: Carpe Diem
The price of natural gas has been weak since mid-year 2008. In other words, it’s been a bust, but that may be changing. Like oil, it fell sharply during the financial panic of ’08, but unlike oil, it has not recovered. There are reasons natural gas pricing does not track oil precisely because they are not equivalent energy sources. First, natural gas is not as easily shipped as oil, so it is not viewed as a replacement for oil. Also, natural gas really is not a player in transportation, which is one of the biggest uses of products refined from oil. Finally, new drilling methods have led to vastly increased reserves in the U.S. and abroad, but oil reserves have not increased as rapidly.
The Golden Age of Gas
Earlier this year, a piece in The Wall Street Journal made this point:
The increasing abundance of cheap natural gas, coupled with rising demand for the fuel from China and the fall-out from the Fukushima nuclear disaster in Japan, may have set the stage for a “golden age of gas,” the International Energy Agency said Monday.
Under a scenario set out by the IEA, global consumption of natural gas could rise by more than 50% over the next 25 years, with it accounting for more than a quarter of global energy demand by 2035, up from 21% now…
A Natural Energy Source
Right now, natural gas is the energy source of choice for large power plants and industrial applications. Many power plants use coal, but natural gas is a cleaner energy source than coal so it should gain market share over time. Other applications such as home heating and cooking are well known. It is rarely used as an energy source for transportation, except in a few specialized applications, but there is no reason it could not used very effectively for powering cars and trucks.
As you may have guessed by now, I think natural gas has a great future as an energy source. In fact, I think we could be on the verge of a golden age for gas. In other words, natural gas consumption should increase and, if it ever makes the leap into broad transportation use, consumption could soar.
Investing in Natural Gas
Most of the large integrated oil companies have natural gas assets, so that is one obvious way to invest. Here is a list of several funds or ETFs that invest in oil and gas production and exploration companies:
- First Trust ISE Revere Natural Gas (FCG)
- iShares Dow Jones U.S. Oil & Gas (IEO)
- SPDR S&P Oil & Gas (XOP)
- Vanguard Energy ETF (VDE)
- FBR Gas Utility Index (GASFX)
- Vanguard Energy Fund (VGENX)
The advantage of these ETFs or mutual funds is that they primarily invest directly in companies that produce oil and natural gas and engage in related activities. Being funds that invest in stocks, they are easier to understand than energy fund that invest in futures contracts and other derivatives. But most are a broader energy play than just investing in natural gas alone. That means most of these funds are not pure plays, but they certainly have lots of exposure to natural gas.
As you may have noticed, my list above did not include the U.S. Natural Gas Fund (UNG). I have written about this ETF before, and for a variety of reasons, I do not recommend it. Click here for lots of in-depth coverage on problems with futures-based commodity funds.
So far, I have only made one investment in this area: Vanguard Energy Fund.. I have not invested in ETFs or ETNs (exchange-traded notes) that utilize futures in natural gas, such as UNG or GAZ.
I am also looking at mutual funds or ETFs that invest in energy infrastructure companies known as master limited partnerships (MLPs). Most of the mutual funds that invest in MLPs are very small, but this is an area I plan to explore some more. Stay tuned.
Disclosure: I own shares in VGENX.