Natural Gas Futures May Be Bottoming

by: Kurt Wulff

Amid widespread low expectations for natural gas price, we see signs of a bottoming that may set the stage for a multi-year advance. For more than four consecutive weeks, seasonal inventory build has been slower than normal. The positive wiggle in the inventory line follows a flat trend for one-year futures price roughly near $5 a million btu since the spring of 2009.

Mr. Eric Miller, long-time colleague in decades past and respected investment strategist, impressed on us that a long basing period after a decline may indicate there is little more selling to be done and that new buying may drive price up. Price patterns aside, the fundamental case for natural gas as the most economic clean fuel has rarely been stronger (see Price Pressure for Natural Gas, ISCW, March 19, 2010 [pdf]). Also we are at peak political uncertainty in the second year of the presidential cycle ahead of mid-term elections. That uncertainty is usually followed by better stock prices in the next two years.

Positioning for the future, investors can choose attractive natural gas ideas among income and small cap stocks by weighing concentration of present value in the natural gas segment, income yield and McDep Ratio, among the most important considerations. With notable exceptions, income and small cap stocks offer more natural gas concentration than large cap stocks. Five buy recommendations concentrated on the clean fuel include income payers Dorchester Minerals (NASDAQ:DMLP), Hugoton Royalty Trust (NYSE:HGT-OLD) and San Juan Basin Royalty Trust (NYSE:SJT) along with independent producers Birchcliff Energy (OTCPK:BIREF) and Cimarex Energy (NYSE:XEC).

Quarterly Roll Boosts Estimates Modestly
Once a quarter, usually after the distribution declaration for the second month of the quarter, we roll forward our Next Twelve Months (NTM) period by three months. Today’s estimates of distribution yield are for the year ending September 30, 2011 compared to yesterday’s estimates for the year ended June 30, 2011. Since futures prices that we use for our estimates have a rising slope with time, the quarter added at the future end of the period usually has a higher price for oil and natural gas than the quarter dropped and at the present end of the period. Simply resulting from the roll, our estimates are a few percent higher for cash flow for practically all companies and for distributions in selective cases as in the U.S. royalty trusts, for example.

Originally published on September 3, 2010.