Natural Gas ETF…how to trade profitably

Natural Gas Futures, How They Effect Natural Gas ETFs

When you hear on the news that natural gas prices are rising and falling, where and who determines the price? Years ago the natural gas market was tightly regulated with prices set by the government. In order to increase production, those regulations were loosened allowing the price to fluctuate with market conditions.

Natural gas futures have a direct influence on natural gas prices. The benefit to this is that there is transparency in the price of natural gas. Anyone can turn on CNBC, pick up the Wall Street Journal or look for the price online. No longer are natural gas prices shrouded in secrecy.

So what can we do with this information? You can invest in natural gas in several ways. One way is to trade the natural gas futures on the New York Mercantile Exchange. This is the largest natural gas futures contract in the world. This contract is called the Henry Hub natural gas contract since it is based on delivery of gas to the Henry Hub gas processing plant located in Louisiana. This futures market was opened in 1990, and natural gas futures options were introduced in 1992 as a further way of hedging natural gas prices.

Natural gas contracts are traded 2 ways. First is the open outcry way. This is where your order is directed to the trading floor and executed in the natural gas pit. These are the people you have seen in movies like Trading Places and on TV jumping and screaming at each other to make a trade.

You can also choose to execute your trades electronically. Here you will select a price on your computer at which to trade. Since open outcry and the electronic trade off of each other, the prices will be the same.

You would need to open a futures or commodity account with a broker. You can find many of them online. You will need see how much money you will need to open an account, what their margin requirements are and how much they will charge per trade. Not all futures brokers charge the same commission. You will need to check commission prices and the level of service they will offer you. Do you prefer to do your own research or do you want to be guided by the broker?

If you do decide to trade off a screen, you will then have to invest in a fast computer and a high-speed cable connection. You don’t want to be left in the dust by faster traders. You will also have to choose which trading platform and charting software you want to use too.

Another way to trade natural gas futures is to invest in a natural gas ETF (exchange traded fund). One of the most popular natural gas ETFs is the United States Natural Gas Fund (ticker symbol UNG). This gas ETF purchases the front month futures contract on the NYMEX. When the front month is within 2 weeks of expiration, they will then “roll” the contract into the next month. This means they will sell their position in the front month and at the same time purchase the next month contract so you are always “long” the market.

What if you think the price of natural gas is going down? How can you profit from that? Once again you can trade a natural gas ETF that is based on the movement of the futures contract. The Horizons BetaPro Natural Gas Bear Plus ETF sells or gets “short”’ the front month natural gas futures. This ETF also “rolls” its contracts forward near expiration so you will always be short the natural gas market.

Now you know how natural gas prices are set and how you can profit from them.

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Want to trade the Natural Gas ETF? Here are some to consider.

There are many things that affect the ebb and flow of natural gas prices. Supply and demand is certainly one of them. Will this winter be cold and cause a spike in prices? Do electric companies needing natural gas to generate the power for air conditioners project the coming summer to be hot, thereby cause a huge demand? What about hurricane season? A hurricane can destroy rigs and disrupt production, witness the effect hurricane Katrina had of natural gas prices several years ago.

Here is a list and some background on some of the most popular Natural Gas ETF that are available for you to trade.

• The United States Natural Gas Fund, LP (UNG)

The United States Natural Gas Fund is an exchange traded fund that seeks to track (percentage wise) the price movements of natural gas prices. UNG units are bought and sold on the New York Stock Exchange.

The investment objective of UNG is for changes in the percentage terms of the units net asset value (nav) based on the natural gas prices as trade on the New York Mercantile Exchange. The price is based on the near month contract that’s set to expire, except when the near month contract is within 2 weeks of the expiration of the contract. At that point the natural gas futures contract will be “rolled” over into the next contract month.

• First Trust ISE-Revere Natural Gas Index Fund (FCG)

The investment objective for First Trust ISE-Revere Natural Gas Index Fund (FCG) is to seek returns that correspond to the price and yield (before expenses) of the equity called the ISE- Revere Natural Gas Index ™.

The ISE- Revere Natural Gas Index ™. Is an equal-weighted index made up of exchange-listed companies that derive a substantial portion of the income form the exploration and production of natural gas. The index is constructed based on the total population of stocks listed in the United States of companies involved in the production and exploration of natural gas. Stocks of companies whose natural gas reserves do not meet certain requirements are not included in the index. Stocks are then ranked using four different methods. These methods include Price/Earning ratio, Price/Book ratio, Return on Equity and to correlation to natural gas futures prices. The rankings are then averaged and the top 30 stocks based on final rank are then selected for the index. The index is then rebalanced on a quarterly basis.

• SPDR S&P Oil & Gas Exploration & Production ETF (XOP)

The SPDR S&P Oil & Gas Exploration & Production ETF seeks to reproduce as closely as possible the performance of the S&P Oil & Gas Exploration & Production Select Industry Index. This index represents the oil and gas exploration and production sub-industry portion of the S&P Total Market Index. The S&P Total Market Index tracks all the United States common stocks listed on the NYSE, AMEX, NASDAQ National Market and the NASDAQ Small Cap exchanges. The Index is an equal-weighted market cap index. The Fund attempts to approximate the investment performance of the index, by investing in a portfolio of stocks intended to replicate the index.

These are 3 of the most popular Natural Gas ETF to trade. Here are a few more you should research:

IShares Dow Jones US Oil & Gas Exploration ETF (IEO)

SPDR S&P Oil & Gas Equipment & Services ETF (XES)

PowerShares Dynamic Oil & Gas Services Portfolio (PXJ)

ProShares UltraShort Oil & Gas (DUG

ProShares Ultra Oil & Gas (DIG)

Your research has now started. Go find the right investment for you.

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Natural Gas ETF Short Funds

When people look to invest into gas ETFs, they are usually thinking they can only bet on prices going up. There are a few natural gas ETFs that allow you to easily short the natural gas market. Read on and find the right one for you.

Why should you trade a natural gas ETF short fund . You will find it is easier to trade a fund designed to be short the market than trying to do it yourself. If you want to short natural gas futures, you would need to open a futures trading account. If you wanted to short natural gas companies, you would need to go to your stock brokerage firm, set up a margin account, and hopefully be able to borrow the shares you want to short. By selecting the right short gas ETF. you can be short the market with the click of a button.

Here are a few short natural gas ETFs to choose from:

Horizons BetaPro NYMEX Natural Gas Bear Plus ETF (HND-TSX) 2x

ProShares Short Oil & Gas (NYSE-DDG)

ProShares UltraShort Oil & Gas (NYSE- DUG) 2x

ETFS Short Energy ETF (SNRG-LSE)

The Horizons BetaPro Natural Gas Bear Plus ETF is perhaps the purest short natural gas play there is. This fund is based on the nearby or front month natural gas futures contract traded on the New York Mercantile Exchange (NYMEX) This fund takes a short position in the front contract. Since each month the front contract will expire, this fund will need to switch the fund into the next contract month. Beginning with the 5 th business day of the month, the fund then begins to “roll” the contracts into the next contract month. This will take place over 8 days until the fund sells all its contracts in the expiring front month and buys contracts in the new front month. Another interesting aspect of this fund is that it is a leveraged fund. The Natural Gas Bear Plus ETF attempts to match twice (200%) of the daily price move. This fund is traded on the Toronto Stock Exchange and its ticker symbol is HND.

The ProShares family of fund offers 2 ETFs that invest in natural gas related companies. The ProShares Oil & Gas ETF (DDG) shorts stocks that make up the Dow Jones U.S. Oil & Gas Exploration & Production Index. The companies that are included in this fund are oil drilling equipment and service, pipelines, gas producers and service companies. Recent companies in this index (which is subject to change) are Exxon, Chevron, Apache and Halliburton. This energy ETF attempts to mimic the single day return (before fund expenses) of the under lying index.

If you want more bang for your buck, they offer the ProShares UltraShort Oil & Gas ETF (DUG). This fund is the same as the Short Oil & Gas ETF, but is leveraged to attempt to earn twice the return of the DDG ETF. Since you are trading a leveraged ETF your risk is twice as much, but the profits can be 2 times as large. You must access your risk before entering a leveraged fund.

Another short gas ETF to look at is the ETFS Short Energy ETF. This energy ETF shorts the natural gas market in addition to crude oil, unleaded gasoline and heating oil. The Short Energy ETF is based on the Dow Jones-UBS Energy Subindex. This fund invests in the previously mention crude oil gasoline and heating futures markets. This ETFs symbol is SNRG and is traded on the London Stock Exchange.

There you have a look at different ways you can be investing in short Natural Gas ETFs. If you feel prices are collapsing and going lower, then you should invest in Natural Gas ETF short funds .

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Natural Gas ETFs and the CFTC New Rules

Recent proposals from the Commodities Futures Trading Commission (the CFTC) may have an effect on natural gas exchange traded funds including the largest fund, the United States Natural Gas ETF (UNG).

These proposals have been in the works for a few months. These new rules may only effect a few of the commodity based ETFs offered to investors.

The United States Natural Gas ETF is a fund that invests in natural gas futures. This is accomplished by primarily purchasing futures contracts on the New York Mercantile Exchange. Since this is a long only fund, it only purchases future contracts and doesn’t hedge the position.

This wasn’t a problem when the fund first started out, but as it has grown in popularity, its size is becoming to big for the futures market to handle. That is when the CFTC first stepped in.

The CFTC first examine the fund over the summer. Concerns were raised about UNG exceeding the position limits set forth by the CFTC. For a brief time during the summer, the United States Natural Gas ETF wasn’t allowed to create new shares for investors. This move then created a premium to the net asset value of the fund. The CFTC then allowed UNG to issue more shares and the premium went down.

To ease the pressure on the natural gas futures markets, UNG has moved into other areas to invest in natural gas. One place they have traded is on the IntercontinentalExchange (ICE). They trade a natural gas futures contract based on the NYMEX contract. UNG has also moved to trade swaps and over the counter products. By doing this, there is less risk to the fund to exceed the futures position limits set by the CFTC.

The United States Natural Gas ETF has sought ways to get around the position limits. The CFTC grants exemptions to position limits in certain ways. Position limits can be exceeded if used for hedging for example. This is a legal way to increase their position to meet the demand of investors wanting to buy into a natural gas ETF.

The CFTC has moved into this because of the run up in energy prices during the summer of 2008. The CFTC is trying to determine why prices spiked that summer. Was it due to speculation or was the worldwide demand for energy that great?

Even with this attention, today’s investor should look into natural gas ETFs if they want to invest in the energy market.

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United States Natural Gas Fund (UNG) review

The United States Natural Gas Fund is the largest natural gas commodity based energy ETF in the world. Opened in April of 2007, it has become one of the most popular natural gas ETFs. Read on to find on why.

The United States Natural Gas Fund is a very simple fund to understand. According to their prospectus, the objective of the UNG fund is mirror the daily percentage move of the natural gas futures traded on the New York Mercantile Exchange. The futures price is for natural gas delivered at the Henry Hub in Louisiana. The price is based on the near month’s future, but when the near month is within 2 weeks of expiration, then the contracts are “rolled” into the next futures contract month. This sets the price, minus the funds expenses.

Natural gas futures on NYMEX are a very active market and are the benchmark for natural gas prices here in the United States. The fund doesn’t use leverage. It attempts to match the daily return of the futures price. The advantage of trading UNG is that it gives you commodity exposure without having to open up a commodity account.

Keep in mind that this is a long only fund. This fund will only purchase natural gas futures. So if you are bullish of natural gas, this may be the fund for you to trade.

This fund is fully marginable through your brokerage firm. You can trade this like a stock. This means you are able to enter market, limit, stop and stop limit orders. You are also able to place GTC (good ‘til canceled) orders as well. The UNG is also optionable. This enables you to buy/sell and write options on UNG. It is also possible to “short” UNG. This is something you would need to set up with your stock brokerage account.

At one point this year, UNG had become so large that the SEC had to step in and prevent UNG from issuing more shares. The fund was becoming too large for the natural gas markets to handle. The SEC has since allowed UNG to issue more shares. To prevent problems like that in the futures, UNG will also be trading natural gas on the Intercontinental Exchange (ICE) and participating in natural gas swaps.

Something else you should keep in mind. Each month UNG must roll the futures contract into the next months contract. Depending on the price relationship, this can cause the markets to be in contango or backwardation. Contango is when the front contract is priced lower than the next month. If the front month contract is $5 and the next month is priced at $6, this will have an effect on the NAV of the fund. This is because you now have to pay more to roll the contracts and to stay long.

Backwardation would be the opposite. If the front month is $6 and the next month is $5, then you would be selling higher and buying lower and that would help your total return.

The natural gas market is currently in contango, so you should keep that in mind when you trade UNG.

As stated at the beginning of this article, this is the most popular natural gas commodity ETF, but there are some things to consider before investing in it. Read more then make a decision if this is the right Natural Gas ETF to invest in.

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