U.S. Markets close in 4 hrs 37 mins

Natural Gas ETF Warms up on Cool Weather

Zacks Equity Research

Natural gas was a weak performer earlier this year owing to weak overseas demand and an oversupply caused by innovative drilling techniques and the success of shale gas,  leading to lower prices. Also, a strong U.S. dollar caused the top and bottom lines of many energy companies to take a beating.
However, the trend appears to have changed from September. Cold winter weather across most parts of the country aided the natural gas demand for space heating among residential/commercial consumers. This, coupled with lower storage volumes (3,776 Bcf as of November 22, 2013), meaning less supply glut, led to the price rise in the natural gas space.
Bullish Demand Projections for the Near-Term
U.S. Energy Information Administration (EIA) forecasts that gas prices will be higher than the year-ago level thanks to the lower natural gas inventories and higher household heating demand. This is due to the anticipation of higher gas prices ahead of winter. The North American natural gas market is susceptible to changes in weather.
While gas pricing is normally higher in winter as it is used as a heating agent, a record-high warm temperature also calls for the increased need for air conditioning thus boosting natural gas demand.
In fact, the current outlook is indicating a colder winter in 2013 as against the record-warm 2012 winter which will surely lead to increased consumption and the consequent price rise. The favorable demand condition picked up lately on a wave of Arctic cold air across the U.S.
Due to this situation, natural gas futures faced extremely strong trading in Friday’s session leaping to a five-month high. As per Bloomberg, this was the largest monthly gain since March. This pushed January futures up to $3.954/mm BTU, leading to a gain of 1.5%. This will be beneficial for companies engaged in the natural gas business (read: Energy ETFs Surge on Q3 Oil Service Earnings Beats).
Market Impact
This positive change in the natural gas market has caught the attention of investors who have started embracing the equity side of natural gas ETFs.  First Trust ISE Revere Natural Gas ETF (FCG) – one of the pure plays on natural gas equities – gained 13.0% in the last three-month period (as of November 29, 2013) against an 11.14% rise in the broader market fund SPDR S&P 500 (SPY). 
In such a scenario, investors willing to ride out this uptrend may want to take a look at FCG. The fund is worthwhile as it has a Zacks Rank #2 (Buy) though with a ‘high’ risk outlook.

FCG in Focus
Launched in May 2007, FCG is a passively managed ETF looking to deliver the return of the stocks primarily involved in the natural gas business. This fund provides exposure to 27 companies by tracking ISE Revere Natural Gas Index. With AUM of more than $499.0 million and average daily volume of about 500,000 shares a day, this is by far one of the largest and the most popular ETFs in the energy equities space. The ETF charges a reasonable 60 bps in annual fees.

The product has moderate concentration in the top 10 holdings which account for about 40% of the total. Top three holdings Penn Virginia, Quicksilver Resources and Magnum Hunter make up for about 15% of the fund. Value and blend stocks are a big part of the portfolio with a respective weight of 45% and 38% of the assets while large cap calls for about 45% exposure (see more in the Zacks ETF Center). In terms of performance, FCG returned around 24% in the year-to-date time frame (as of November 29).

The fund is currently trading little below its 52-week high of $20.62 which leaves a scope to go higher as long as broad trends hold up well. This is particularly true considering that short-term moving averages have edged past long-term ones, as this suggests continued bullishness.

This is further confirmed by the recent upswing in the Parabolic SAR, although this figure should definitely be monitored closely.

Bottom Line
Though this seasonal upturn might be short lived in the natural gas market, further severity in winter weather could pull out this rally for a bit longer. Otherwise, increased domestic production suggests a downside risk for the sector once the favorable seasonality passes. 
Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days. Click to get this free report >> 

Read the analyst report on FCG

Zacks Investment Research

Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days. Click to get this free report