The
natural gas sector is currently enjoying a bit of a revival. Oil is at a 4-year
low but the early chills of winter have already boosted consumption of natural
gas. On Thursday, natural gas for December delivery shot up 5% to $4.404 a
million British thermal units on the New York Mercantile Exchange, a four-month
high. The question on every investors’ mind is: Can I use price hikes to make
money in the natural gas sector?
The answer
is not simple. Let’s look at investing in the natural gas sector through ETFs. According
to the Wall Street Journal, natural
gas ETFs are heading for an eight-session positive steak, tying for the longest
rally in over eight years. But before investing, I strongly suggest that
investors know the ins and outs of gas ETFs. Natural gas is not like gold. You
can easily and cheaply store gold but you cannot easily or cheaply store gas. When
you buy an ETF, you are not buying gas stored somewhere but rather you are
purchasing future contracts. Future contracts promise the delivery of natural
gas on a particular date. So if I was to buy a contract on Jan, 20 then I would,
in theory, have this gas delivered to me by February, 20. People don’t actually
want the gas delivered so they will sell the existing contract and buy a
contract further into the future. Here is the problem: longer-dated natural gas
contracts cost more than the nearer-term contracts. In essence, a March 2015
contract costs more than a February 2015 contract. When this is the case, every
time an ETF buys a future contract by selling a nearer one, they are buying
high and selling low. Needless to say, ETFs lose money every time this is done.
But losses are brushed off to the investors. Hence, investing in ETFs in an
environment of higher gas prices might not be that opportune.
The
alternative is to look at natural gas companies. Natural gas companies can
benefit from rising gas prices because they can sell future contracts at a
higher price than today. This sentiment results in there being a longer-term
confidence in natural gas companies. Investors bid up so many companies in
hopes that they will yield good profit in future years. Share prices of these companies
are often boosted up to a point where natural gas stocks aren’t exactly cheap. This
is the case today with many natural gas stocks surging up to prices in the $20-$30
range.
Disclaimer: This article was posted with
the permission of a third-party contributor and the opinions contained
therein do not necessarily reflect those of Smallcappower. Smallcappower
does not endorse any investment advice provided by these third-party
contributors.
Please consult your investment advisor
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