Time to Profit from the Natural Gas Rebound

Time to Profit from the Natural Gas Rebound

by | published March 18th, 2013

On Friday, I outlined why natural gas prices were moving up.

Today, let’s talk about how investors can make some money off this.

As gas prices inch toward $4 per 1,000 cubic feet (or million BTUs) on the NYMEX futures market, we need to remember that this is not going to be either an accelerated rise or one that will be without volatility.

For reasons mentioned on Friday, gas prices will likely cap out in the mid-$4 range by the time we reach midsummer.

That means there are not going to be any across-the-board influences raising the entire sector. This is going to require some patience and selective investing.

So how does one structure an approach to this?

Three overarching considerations must be addressed upfront.

First, the strategy requires some patience. This rebound is not happening overnight.

Second, unlike in other energy categories, there is limited advantage here in the use of exchange-traded funds (ETFs). With natural gas, it’s all about cherry-picking stocks, not playing the broad environment of providers.

Third, be prepared to redirect investment.

Staying with selected companies through low periods may work in other sectors, but with gas there is considerable extractable volume to bring to market at any time. While demand is going to be rising in the categories discussed on Friday, the potential on the supply side will make a “lifting of all boats” impossible.

Therefore, adopt an approach utilizing trailing stops. Select a loss level you can live with (25% or 30% is what I usually use), and sell shares when they reach that level.

These are trailing stops. The stops kick in once the decline has reached the percentage from the share’s highest value while part of your holdings. That allows you to retain some profits or at least minimize the overall loss, if the stock has benefited from an improvement.

So, as the natural gas rebound continues, what opportunities should you target?

A Winning Strategy for the Coming Rebound

Here, there are four areas of primary interest. Each requires that you apply the following considerations in selecting investments.

  • First, the companies need to have a particular emphasis in the overall upstream-to-downstream sequence (from wellhead to consumer distribution).
  • Second, each selection should have a track record of successful business in an area of specialty – the shale gas “revolution” has brought in a number of players, but the current pricing dynamics will shake many of them out.
  • Third, there is the further need to have sufficient liquidity in the shares selected to allow an entrance and exit on your terms. This is provided by a combination of market cap and daily trading volume.
  • Finally, selected investments should exhibit some diversification. Do not invest in only one sector of the industry. Obviously, as I will mention in a moment, there will be certain elements likely to benefit more than others.

But over-weighting investments in a narrow range of the sector means you either have several investments performing at about the same improvement…or at the same loss. As market indicators change, you have no place to go.

There’s Always Money in the Midstream

Where to move first is the main question. As the gas market opens up, two initial plays are warranted. The first is in midstreams – the companies providing gathering, initial processing, transit, storage, and fractionating.

We have discussed midstreams on several occasions. Many of these are actually equity issuances from master limited partnerships (MLPs). These afford the average investor with an opportunity to participate in the increase in gas movement from field to distributor and usually provide a dividend higher than market averages.

This results from the way MLPs are structured for tax purposes. As with “S” corporations (now the structure of more small businesses in the U.S. than any other), MLPs do not incur corporate taxes. Instead, all profits move directly to the personal tax returns of partners in proportion to ownership.

The percentage of an MLP spun off as stock, therefore, corresponds to a percentage of profits. And all of that moves to the equity holders as dividends.

But not all MLPs are created equal when it comes to returns. When the approach emerged, it was a way to control pipeline systems, long regarded as the backbone of midstreams. That initially resulted in major gains. As the rise in shale gas volume took place, however, the dual advantages of MLPs began to decline.

MLPs had the advantage of gaining fees for transport across pipelines and making money from operators having to use pipelines as storage for gas coming out of the ground with no immediate market end user. The very weight of the new volume increased the portion held in storage, reaching pipeline capacity from such storage not from transport, and reduced the prices for the gas.

The combination of elements producing a declining gas price (until recently) depressed MLP profits by increasing the operating expenses of assets and reducing the fees paid by operators. That finally led to a cut in production (actually, a cut in the increase in production) and a slow reduction in the excess supply in storage.

MLPs are now likely to see a return to rising profitability as the new balance among operators kicks in. Yet this will not result in the same return for all.

In this category, pick the basin comprising the primary service region for an MLP, not the producing companies. Some basins are providing cheaper per well extraction costs than others. These are the ones that will recover first, and provide the MLPs involved in providing pipeline services to those basins with the initial profit.

Two basins are in focus here: Marcellus and Niobrara. Target your initial MLP buys there.

Mergers and Acquisitions Are Heating Up

The second play is going to emerge from a new wave of mergers and acquisitions (M&A). The days are gone when most oil or gas companies will be driving to become vertically integrated – controlling all aspects of the process from the field to retail distribution.

But that does not prevent focused integration and combination of what used to be functions run by separate companies. The vertical moves today are emerging in the area between pipelines and retail sales. These include processing, terminals, wholesale distribution, and especially movement of volume for specialized petrochemical uses.

The objective here is not a new one. These new holdings can utilize transfer pricing rather than market pricing when moving from one particular service to the next. By controlling more than one stage in the process and controlling all the moving parts in between, the vertical can limit costs and increase profit margins.

What has been learned from the first go round in vertical integration – the one that created huge international majors – is the increasing costs and inefficiency flowing from owning too many assets in too many segmented portions of the sector.

Bigger is not always better.

Related modular expansion, however, is the next wave. And that addresses components in the same market neighborhood.

Notice I have not said anything about the operating companies themselves, those drilling and extracting the gas. That’s because there is still too much competition, and another form of M&A must occur there first before profit margins are significantly improved.

That will happen.

But the two areas identified today are more likely to generate a nice return before then.

We’ll talk a bit more about these basins as this rebound continues into the summer.



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  1. M. Adler
    March 18th, 2013 at 13:44 | #1


    Don’t be so G** D*** coy. You tell me/us above to cherry pick stocks. Which ones do you recommend?

    March 18th, 2013 at 14:04 | #2


  3. Dom
    March 19th, 2013 at 13:54 | #3

    Would have to echo above, a lot of grey here…what companies will be best positioned for NG? The major guys like XOM, CVX, etc? Will the smaller players be more agile, e.g. WPRT, and benefit the most or even be takeover targets?

    Furthermore, I would echo posts from the previous article on NG. What’s ur thoughts Kent on the anti/bear NG crowd, e.g. Art Berman, Bill Powers, etc? There seems to be a strong contingent of consultants, ‘experts’, etc who feel that 1 – we dont have nearly as much supply as we think, e.g. really onl havee 10 yrs of NG below us, and 2 – exporting NG due to this limited supply will result in significant increase in domestic prices, hurting the sector, the consumer and overall economy.

    Curious to hear your thoughts and what it is you are seeing that the other guys are not.


  4. jerry malinab
    March 25th, 2013 at 04:29 | #4

    this is sweet … i always love oil and gas because it is very sweet … just like having a milk shake wooh… kick it in and lets play boom bbcode appreciate and more power…

  5. Cathy
    March 25th, 2013 at 16:24 | #5

    Nat/Gas etc is coming but we have a President who forgot to get a business degree, 1st budget in four years that is really leadership, four years of a constitutional crime is called have a budget. Must have been joking on his 1st Election about transparency and leadership. Just give Veresen (FCHYF) the permit for there pipeline to export Nat/Gas etc. out of the port in Oregon to Asia. If you are not going to let US benefit from our Canada neighbor/friend at least open the door to export. Just because you let Warren’s Oil Train rip the tax payer off forcing refineries to pay an extra 10$ a barrel more for transportation instead of Keystone Pipeline EPA scare. I guess it will change when a 100 tanker car train derails and we can throw some oil dry on it and you can blame big oil while Warren gets the write off. Maybe if the Secretary of Energy and Transportation did not quit because of ignorance of there appointee things might happen but come to think of it hasn’t every Secretary appointed by this transparent Pres. golfer also quit for getting downgraded for implementing this liberal my way or highway no sense agenda. How many subsidies is the record for a president to initiate to make socialism burn the money Ben B prints. Let capitalism run its coarse you will see that is why the US is here in the first place. They always tell people don’t feed the wild animals and yet you treat people like wild animals. Quit taking the Roman theory that it made sense to feed the Christians to the lions, I do not approve of that but if the US population is so subversive at this day and age and given Obama’s beliefs it makes sense to bleed those that produce jobs that show a profit and stick to his printing money and hyperinflation theory than this is predictable for him to eliminate those that make the economy grow and tell them to get back in the free food line like his mother-in-law who we pay for now she likes us in that line and looks down from the third floor at the White House and calls down to the kitchen and tells the chef what to make for supper so she and her daughter can test it for us to see if we should be allowed to eat it or we should all have the same meal every day. Wonder if the White House uses Nat/Gas. People make better choices than Govt. and the Got. should protect people’s choices not mandate and subsidize them. I think it goes back to taxes with representation not dictatorships and if you complain or show a better way to help call China they will either like your idea or throw the key away and put you in there free food line. How much do we owe them because of Obama, that pipeline would put a dent in that debt give Veresen the permit they will make a profit way before this Sabine Pass export. This time is giving other countries a chance to capitalize before we do and what will the price mark up be then. I don’t think the price for Nat/LQD/Gas will be the same when LNG is ready for export some other country will beat us to that game but Warren’s Oil Train will keep going cha ching $.

  6. philip goldman
    March 28th, 2013 at 13:36 | #6

    so when does CHK get CEO?

  7. A Cacciottolo
    May 4th, 2013 at 13:25 | #7

    I really think that Dr. Moors should go to specifics. I do not have the ability or the time to research particular fields as he mentioned in this article. What about it Dr.?

  8. Corky
    May 28th, 2013 at 10:15 | #8

    A second company has received a fed permit to export nat gas. This company is private and not public. Is the omama adm lakies involved in ownership in this private company??

  9. Liam Hamilton
    June 10th, 2013 at 17:23 | #9

    I believe everything Kent says because he is an expert in his field and has advised many governments, but by the same token it is contrary to what billionaire contrarian Jim Rogers said (if I am not mistaken),which is that the natural gas play is going to run out soon because most NG wells being drilled in Texas run dry after three years. How do I reconcile these two positions?

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