Gigem77

Opportunities for Both Shorts and Longs in Natural Gas

Ari is wrong on several points. Natgas is not fungible like oil. US export capacity is quite small and other sources exist closer to Asia. So demand in India has no impact on US natgas prices or supplies.

US consumption is still running about 4bcf per day less than during the same period last year. Industrial demand is responsible for this drop. The mounting job losses tell us that demand is not returning. The inventory replacement bounce in GDP is temporary.

The UNG is issuing more shares. They began on September 28th.

Pressure in the pipelines and storage facilities is so high that operational flow orders have been and are being issued to stop the producers from compressing more gas into the system. The rig count is increasing from the summer lows. There are hundreds of wells that have been drilled but await completion. So the supply overhang is not just from storage, but also from curtailed production. This means that winter draws will be smaller. We will exit winter with more gas in storage than last year and begin this cycle again. When will industrial demand rebound?

Residential and Commercial heating demand during the winter are not enough to compensate for the loss of industrial demand. We need petrochemical plants, car factories and refineries to reopen or increase capacity utilization and that is not happening yet.

Nothing the politicians have done so far is helping natgas. If they would convert the government's fleets of vehicles to use CNG, that would help. Heating oil prices are low and inventories are above the high end of the average range. All of this is good news for consumers this winter.

So the best hope for the natgas bulls is that speculators will run the price higher and that there will be sharp short covering rallies like the ones seen this year. That is a trading environment for the nimble. It is not time yet, imo, for longer term investors to put money to work here.

Shares of producers like UPL, XTO and CHK are tracking the broad market, not the natgas price. So they are quite overbought and will fall with the SPX when it corrects. Their 7-9 dollar hedges are dropping off the books. So earnings will show some real hits over the next few quarters.

Rough Times Ahead for Natural Gas

UNG is a flawed vehicle. It trades at a premium to the NAV. UNG announced yesterday after the close that they were issuing more shares. That may not be enough to eliminate the premium, but the price dropped after hours to 10 bucks. The October natgas contract terminates trading on Friday, September 25th. "UNG’s investment strategy is to close out its positions and ‘‘roll’’ from the near month contract to expire to the next month contract during a four-day period beginning two weeks from expiration of the contract.” How many contracts will they close into the biggest glut of natgas in the last 20 years? Don't let the 2-3 day short covering rallies fool you into thinking the low is in place. Canadian natgas is projected to go below a dollar before winter and the US spot price for natgas is easily headed below 2 bucks.

The Market's View on Oil

What is the EPS range for your list? What PE did the market assign when oil was 85 in January and what was the PE when oil was 147? How does that range compare with today's price of 112? If the PE range is tight, and it is, then how does that affect your theory?

DVN is primarily a natural gas producer with expanding production. They have a forward PE of barely 6 today. When crude was 147 and natgas was nearly 14, their forward PE was about 7.5. You use a trailing PE of 10. That's not much difference.

A better hypothesis is that the market does not like energy shares and always assigns very low multiples. That's why many of the big energy companies are buying back their own shares.

Analysts estimate that DVN will make 12 dollars per share this year and 14 in '09. Assign any double digit PE you like and you get a price higher than the current one.

Too Soon to Re-enter Oil Stocks?

Thanks for the chart.

Demand for energy is not destroyed, it is subdued or supressed. As prices fall, demand comes back. The EIA data show that over the past 4 weeks demand for gasoline rose week over week. Equilibrium, minus a bunch of speculators, is going to be re-established north of 100 and possibly 110 in oil. Once that becomes apparent the market will take off the discount currently applied to that list of stocks.