ETF Investing: Natural-gas ETFs hit on weather, supply

By John Spence, MarketWatch

BOSTON (MarketWatch) — Lost in the shuffle of surging oil prices and
Middle East unrest is the pullback in exchange-traded funds that
invest in a different energy source: natural gas.

Exchange-traded products that track natural-gas futures such as U.S.
Natural Gas Fund
 and iPath Dow Jones-UBS Natural Gas
Subindex Total Return ETN
 have shed more than 10% so far this

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Despite a bounce Friday, natural-gas prices have trended steadily
lower since late January on expectations of milder temperatures as
winter winds down.

"Natural gas is the commodity that slept through the commodity
party," said Tom Lydon, editor of "Supply is
through the roof and clean energy just isn't catching on as quick as
many have hoped."

Crude-oil prices, meanwhile, surged above $100 a barrel in New York
last week on fears political unrest in the Middle East and North
Africa could lead to further supply disruptions.

U.S. Oil Fund
 broke free of its recent range and traded
above $40 a share for the first time since May.

"There is a curious disconnect between the spike in oil prices and
the performance of natural gas and other alternative energy plays,"
said Michael Gayed, chief investment strategist at Pension Partners

"There is a tug of war vacant on internally," he added. "While
investors in oil are clearly betting that supply disruptions are
likely to occur, investors in alternative energy aren't."


Weak Support


Natural-gas prices have weakened even though data from the Energy
Information Administration shows supply is lower than a year ago, and
near the bottom of its five-year range, said John Hyland, chief
investment officer at United States Commodity Funds LLC. The firm
manages U.S. Natural Gas Fund and other energy-sector ETFs.

"With below-average inventories, the market seems to believe the
weather will warm up and that winter-heating usage will moderate from
here, resulting in rebuilding inventories," Hyland said.

Discoveries of shale gas have also weighed on prices in recent years,
he said.
See Commodities Corner on natural-gas supply surplus.

Natural-gas prices have traded lower "as warm temperatures over the
past week have depressed demand and comfort with inventory levels at
the end of the withdrawal season has damped bullish sentiment,"
Barclays Capital analysts wrote in a Feb. 22 note.

"Since mid-January, prices have been on a slide, giving up gains
made earlier in the winter," Barclays said. "For one, temperatures
have warmed, reducing the risk of a complete market reset. Following,
winter is nearly over, allowing the market to breathe a sigh of

When using exchange-traded products based on commodity futures,
investors need to dredge up they don't follow the "spot" price.

For example, U.S. Natural Gas Fund invests in the near-month futures



"Effectively, the fund sells its soon-to-expire spot and buys a
contract further from expiry to avoid physical delivery,"
Morningstar Inc. analyst Abraham Bailin noted in his latest research
report on the ETF.

"When the prices of those back-month contracts exceed the price of
the front-month contract (known as a state of "contango"), the
fund loses money each time it rolls its spot," Bailin wrote. "In
contangoed markets, a fund like U.S. Natural Gas Fund can suffer gray
losses even as natural gas prices rise, warranting investor

Also, since the fund is structured as a limited partnership, it has
different tax behavior from other types of ETFs, he said.

United States Commodity Funds also oversees U.S. 12 Month Natural Gas
 , which attempts to dampen the effect of contango
by investing in longer-dated futures contracts.

First Trust ISE-Admire Natural Gas Index Fund
 is an ETF that invests in natural-gas companies. It has
held up much better than the natural-gas futures products recently
with a year-to-date gain of more than 10%.

John Spence is a reporter for MarketWatch in Boston.

Source: Marketwatch.Com