Investing In Natural Gas: These ETFs Hold Clues To A Price Rebound (UNG, APC, APA, CVX, DVN, FCG)

Money Morning Staff: Analysts and experts love to say the U.S. is “the Saudi Arabia of natural gas.”  That statement implies the U.S. is to natural gas as Saudi Arabia is to oil: One of the world’s top producers with decades (perhaps longer) worth of reserves of the commodity. 

Wearing the crown as the world’s largest gas producer has been both a gift and a curse for the U.S. A gift in that exploding production of the fuel at various shale plays throughout the country has created an economic benefit in the form of hundreds of thousands direct and indirect jobs. Not to mention, natural gas stands as perhaps the most viable avenue for the U.S. to significantly reduce its dependence on foreign oil.

That is the good news.

However, a burden has been endured by those who are investing in natural gas, looking to profit from the U.S. gas boom. Combine record production with the facts that demand has been tepid and natural gas is not yet widely used as a transportation fuel, and prices have plunged.

There are signs, faint as they may be, that natural gas is rebounding. Anyone interested in investing in natural gas can use some familiar ETFs to finally profit from that trend.

UNG: A Long Way To Go

The United States Natural Gas Fund (NYSEARCA:UNG) is arguably the most recognizable and controversial natural gas ETF on the market today.

UNG gains a lot of attention from the mainstream financial media and investors alike because its investment objective is easy to understand. UNG tracks front-month natural gas futures traded on the New York Mercantile Exchange.

Therein lies the rub. While scores of ETFs have been criticized for tracking error or deviating significantly from the fund’s stated investment objective, those critiques cannot be directed at UNG. In fact, UNG has done exactly what it is supposed to: Track the price of natural gas futures.

An ETF tracking natural gas was a great thing in 2008 when prices were flirting with $11 per thousand cubic feet. It was not a good thing in April when futures breached the $2 per thousand cubic feet.

Again, UNG has done exactly what it is supposed to do and that means the fund has lost almost 90% of its value in its five-and-a-half years of existence. That is even with multiple reverse splits designed to prevent the fund from going to $0 while artificially inflating its price.

Despite its checkered track record, UNG is the bellwether natural gas ETF. With average daily volume of close to 13 million shares, the fund is highly liquid. That high volume also gives investors the potential to capture large moves in either direction without having to use a riskier leveraged product.

The bottom line is UNG has a long way to recapture its lost 2007-2008 glory. It may never do so, but the fund – and natural gas prices – have shown some signs of life in recent months.

Play Natural Gas Companies with FCG

The First Trust ISE-Revere Natural Gas Index Fund (NYSEARCA:FCG) has been around nearly as long as UNG, but is not nearly as controversial. It is easy to understand why.

First, FCG is an ETF that holds stocks, an approach that most investors are more comfortable with compared to the futures-based UNG. That also means investors are subject to lower fees with FCG than with UNG.

Second, FCG has not subjected investors to anything close to UNG’s level of value erosion. FCG is down a mere 6% since its 2007 debut. A large part of the reason for FCG’s durability in the face of plunging natural gas prices is the fact that not all of the ETF’s 31 holdings are gas plays.

Holdings such as Anadarko Petroleum Corp. (NYSE:APC), Apache Corp. (NYSE:APA) and Statoil ASA (NYSE:STO) are oilier in their production streams and that helps balance out the perception that this is a strictly natural gas fund.

Beyond that, FCG constituents such as EOG Resources Inc. (NYSE:EOG) and Devon Energy Corp. (NYSE:DVN), just to name two, are spending more on oil exploration and production while reducing their gas profiles.

There is another reason to consider FCG, though admittedly it should not be the deciding factor in purchasing shares. Of FCG’s 31 holdings, five or six, perhaps more, stand as credible takeover targets for cash-rich oil majors such as Chevron Corp. (NYSE:CVX) and Royal Dutch Shell (NYSE:RDS-A).

Stock-picking in the essence of finding one company that could be acquired is not sound investing. At the very least, it is tricky business. With FCG, investors do not need to pick just one stock. If one of the ETF’s holdings is acquired, Wall Street will react the way it always does and that is to start identifying what companies in the same sector could be next to be acquired. That is a rising tide that could lift several of FCG’s boats.

Written By The Money Morning Staff

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