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Why natural gas prices finished weaker, hurting some energy names

Ingrid Pan, CFA

Natural gas prices closed down on the week

Natural gas spot prices closed at $3.53 per MMBtu (millions of British thermal units) on September 6—down from $3.58 per MMBtu the prior week. The commodity was helped by hotter-than-normal weather earlier in the week (see Hotter weather helps natural gas, but summer is almost over). However, a bearish inventory report weighed down prices later in the week (see Bearish inventory report drags down natural gas prices).

(Read more: Why you should consider risks before investing in the Utica Shale)

Lower natural gas prices are a negative catalyst for energy stocks—especially domestic independent upstream names whose production largely includes natural gas such as Chesapeake Energy (CHK), Southwestern Energy (SWN), Comstock Resources (CRK), and Quicksilver Resources (KWK).

Lower natural gas price movement is also negative for the U.S. Natural Gas Fund (UNG), an exchange-traded fund designed to track the price of Henry Hub natural gas (the standard benchmark for domestic natural gas prices).

Natural gas prices are low from a long-term perspective

From a long-term historical perspective, natural gas has been trading at low levels over the past few years. Prior to the financial crisis of 2008, natural gas had reached peaks of over $15.00 per MMBtu. Since 2008, a large amount of natural gas supply has come online without an equivalent increase in demand due to the discovery and development of large natural gas shale resources in the United States. Many investors expect natural gas prices to remain relatively depressed, as the development of shale resources has allowed companies to produce natural gas economically at lower prices.

(Read more: 2Q13 earnings calls were positive for Utica Shale investment)

For companies weighted towards natural gas assets and production, prices have an important effect on valuation

Market participants and upstream energy companies monitor natural gas prices because lower prices translate into lower revenues—and therefore lower margins and valuation for natural gas producers. The chart below shows natural gas prices plotted against CHK’s and KWK’s stock prices over time on a percentage change basis. It appears that the companies’ valuation has tracked the price of natural gas quite closely.

(Read more: 2Q13 earnings calls were positive for Utica Shale (Continued))

Negative short-term catalyst, prices remain relatively low

This past week, natural gas prices were down slightly, which was a negative short-term catalyst. From a wider long-term perspective (five years and longer), natural gas prices are relatively low. Fluctuations in natural gas prices most affect natural gas–weighted producers, such as the companies mentioned above (CHK, SWN, CRK, and KWK), and the U.S. Natural Gas Fund ETF (UNG). Investors with such holdings find it prudent to track the price of natural gas.

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