Invest In Natural Gas Without Being Affected By Contango
by Alfred Lee, CFA, DMS
Investment Strategist, BMO ETFs
Global Structured Investments
alfred.lee@bmo.com
November 5, 2010
Recent Developments:
- Given the recent rise in natural gas prices, the commodity is again attracting investment interest from the market. This is especially so as natural gas prices tend to exhibit seasonal patterns.
- Natural gas storage levels (as indicated by the U.S. Department of Energy) have shown a tendency to plummet in early to mid-November. This year, however, we have not yet seen that sudden drop in natural gas storage (Chart A) but given the recent cooler temperatures, that drop in natural gas storage may be right around the corner.
- This past week, the U.S. Department of Energy survey expected an injection of 64 billion cubic feet (bcf) indicating that the market is not yet pricing in a drawdown. Although, the actual inventory number reported was 67 bcf, an unexpected withdrawal of supply would likely cause the price of natural gas to rally.
- While futures-based ETFs are effective tools for short-term trading, during contango (when future prices exceed the spot price) being accurate on timing is especially important. As such, for those investors that want to rely less on timing and implement more of a buy and hold approach, they may want to consider exchange-traded funds (ETFs) that invest in gas-related companies.
Opportunity:
- The BMO Junior Gas Index ETF (ZJN) tracks the Dow Jones North American Junior Gas Index, which is made up of 31 North American small cap companies involved in natural gas related activities.
- Investors that want to invest in natural gas without having the concerns of contango and thus the impacts of a negative roll yield may want to consider small-cap natural gas companies. Year to date, the Dow Jones North American Natural Gas Index has provided a sizable return, where both the near month contract of natural gas and larger cap natural gas companies (as measured by the NYSE Arca Natural Gas) have delivered negative to near-zero returns (in C$) respectively.
- In addition, the small-cap commodity space has been an area ripe for merger and acquisition activity. Many larger companies have taken advantage of low interest rates and used merger and acquisitions as a means of growth. Recent examples include the acquisition of Storm Exploration Inc. by ARC Energy Trust and Chinook Energy Inc.’s cash and stock takeover of Iteration Energy Ltd.
Chart A: Natural Gas Inventory Tends To Plummet In Early To Mid November
Source: Bloomberg, BMO ETFs
Chart B: Natural Gas Contracts Is Currently In Contango
Source: Bloomberg, BMO ETFs
Chart C: Junior Natural Gas Companies Have Performed Well Year To Date
Source: Bloomberg, BMO ETFs
*All prices as of market close October 29, 2010 unless otherwise indicated.
Disclaimer:
Information, opinions and statistical data contained in this report were obtained or derived from sources deemed to be reliable, but BMO Asset Management Inc. does not represent that any such information, opinion or statistical data is accurate or complete and they should not be relied upon as such. Particular investments and/or trading strategies should be evaluated relative to each individual’s circumstances. Individuals should seek the advice of professionals, as appropriate, regarding any particular investment.
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