Thursday, September 3, 2009

Natural Gas: "Tread Carefully When Trading UNG"

From Minyanville:
The collapse of the natural gas market in the US has been breathtaking. And if you need anything else to worry about, United States Natural Gas (UNG) -- which is in the midst of a massive liquidation -- is selling at a premium somewhere in the neighborhood of 20% relative to the spot price of the commodity. Thus, the end to the carnage is not apparent....MORE
Followed by:

Five Reasons to Stay Cautious with UNG
I've had lots of questions on my article from yesterday, Tread Carefully When Trading UNG.
For now, I don't plan to do anything with this situation. There are several reasons for this.

1. I have no edge on the regulatory resolution of this.

2. Given the difficulty in shorting shares of United States Natural Gas (UNG) and the particularities in the futures market for natural gas (NG), implementing an arbitrage trade isn't easy.

3. Natural-gas producers are overvalued relative to the spot price. However, if you go out far enough on the futures curve, the overvaluation is still there, but becomes less severe. This contango makes the situation tricky. In theory, the value of producer stock prices should track the prices further out on the curve than the spot price. If the longer-dated prices for NG stay firm, the share prices of producers may not react much. In other words, despite the apparent disconnect between the spot price and the shares of producers, it's possible to argue that producer share prices may be behaving relatively efficiently (I'm trying to say that with a straight face)....MORE