Natural gas’s 46 percent drop since June has done nothing to awaken bulls in the options market, with puts on a fund tracking the commodity reaching the highest price in more than two years.
Implied volatility for 30-day options to sell the U.S. Natural Gas Fund LP was 4.14 points higher than calls to buy on Feb. 21, according to data compiled by Bloomberg. The relationship known as skew reached 5.41 on Feb. 15, the biggest gap since October 2009.
Traders are betting the natural gas ETF may keep falling following forecasts for higher-than-usual U.S. temperatures that reduce demand. A glut spurred by the fourth-warmest winter on record and increased supply from hydraulic fracturing, a process of extracting fuel from shale rock, helped drive natural-gas futures to a 10-year low in January.
“The short-term story on natural gas is bearish,” Joanne Angela Hruska, a Calgary-based portfolio manager at Aston Hill Financial Inc., said in a phone interview yesterday. Her firm manages C$5 billion ($5 billion). “People are worried that we could get a lot more full on storage, which could make the short term very scary for prices,” she said. “The investors who are making bearish bets on the ETF could be right.”
Natural-gas futures dropped 0.8 percent to $2.621 per million British thermal units on the New York Mercantile Exchange yesterday after a report showed U.S. stockpiles dropped than than estimated last week. The price fell as low as $2.231 on Jan. 23, the lowest since February 2002.
The Energy Department said yesterday that supplies declined 166 billion cubic feet in the week ended Feb. 17 to 2.595 trillion cubic feet. Analysts projected a withdrawal of 170 billion, according to the average estimate. Supplies were 41 percent above year-earlier levels.
U.S. heating demand will be 6 percent below normal from Feb. 29 through March 4, according to data compiled by Belton, Missouri-based Weather Derivatives. Temperatures may be normal or warmer-than-average in the eastern and central regions of the country through March 8, according to WSI Corp. in Andover, Massachusetts.
The $952.1 million ETF, the largest linked to natural gas, aims to track the front-month futures price by buying the contract closest to delivery each month, then selling it and buying the following month. For most of the last five years, the second-month contract has been more expensive, a price structure known as contango.
“UNG is designed to follow the return of the futures,” John Hyland, chief investment officer of U.S. Commodity Funds LLC, which manages the security, said in a telephone interview today. “The objective of the fund is to not to track the change in the spot price. The investment objective is to match everyday’s change of the futures contract.”
Contango causes the security to perform worse than natural gas, because it forces the fund to sell low and buy high each month. The ETF has fallen 95 percent since it was introduced in April 2007, while natural gas futures declined 65 percent. The ETF did a one-for-four stock split after the market closed on Feb. 21 to bring the unit price up from near record lows.
“Because of the contango effect, unless natural gas itself keeps moving steadily to the upside, this thing is destined to lose,” Donald Selkin, the New York-based chief market strategist at National Securities Corp., which manages about $3 billion, said yesterday in a phone interview. He owns the natural gas ETF and recommends owners sell calls on the security to offset losses. “People would be better off having bought the natural-gas futures.”
Chesapeake Energy Corp., the second-largest U.S. gas producer, said this week that it cut output by 1 billion cubic feet a day, and Chief Executive Officer Aubrey McClendon said the reduction will last through October. The number of gas drilling rigs fell to 716 in the week ended Feb. 17, the lowest level since Oct. 2, 2009, Baker Hughes Inc. data show.
“That’s going to continue to be bullish for natural gas, if we continue to see large corporations do that,” Anil Tahiliani, a money manager at McLean & Partners in Calgary, said in a telephone interview Feb. 21. The firm oversees about C$1 billion.
Four more U.S. natural gas producers would need to reduce supply by 500 million cubic feet a day each for the rest of the year for prices to average $4 per million British thermal units in 2012, Shiyang Wang, an analyst for Barclays Plc in New York, said in a note to clients on Feb. 21.
The Chicago Board Options Exchange Volatility Index, known as the VIX, rose 3 percent to 17.31 today. It dropped 65 percent from its more than two-year high on Aug. 8 through yesterday.
The impact on gas supply from fewer rigs and lower production won’t be felt for months, according to Rick Grafton, who oversees C$100 million as chief executive officer of Grafton Asset Management in Calgary.
“None of these supply declines will kick in until after September,” Grafton said in a telephone interview on Feb. 21. “Storage is full, they’re bringing on the new gas,” he said. “The summer market could be the ugliest we’ve ever seen.”