In a year that has delivered solid returns for most commodities investors, natural gas has been the glaring exception. For most of 2009, weak fundamentals and return-eroding contango have hammered the United States Natural Gas Fund (UNG), sending the ETF down more than 60%. But the year that most investors in natural gas would like to soon forget may end with a bang, as one of the world’s biggest companies makes a big bet that natural gas will be a central component of the world’s future energy needs.
Exxon Mobil announced this week that it will acquire XTO Energy, an explorer for and producer of natural gas, in a $31 billion all-stock deal. XTO has significant holdings in Louisiana, Arkansas, Oklahoma, and Texas, but lacks the capital necessary to develop all of the massive fields it has discovered in recent years. Exxon increases its stake in an area of the energy industry that could expand significantly in coming decades as the push for “green energy” continues.
“Much of the world’s remaining oil lies in the hands of countries unwilling to split profits with foreign companies,” writes Russell Gold. “Meanwhile, other sources of energy, such as coal, face environmental constraints, and renewable energy remains too small a contributor to have much impact on revenue in the near term.” In a world that is demanding both more energy and cleaner energy, that makes demand for natural gas likely to surge. Now that Exxon has a major interest in natural gas, many analysts expect the world’s largest publicly-traded oil company to become a staunch advocate of natural gas as a “fuel of the future.”
While it’s far too early to judge the impact of having this added firepower behind natural gas, the potential is significant. Exxon could push for increased use of natural gas in a variety of business applications, ranging from power generation to long-distance trucking. With Exxon’s deep pockets now firmly behind natural gas, the debate over U.S. energy policy may be altered dramatically.
Impact On UNG
UNG jumped nearly 3% after the deal was announced, as Exxon’s bullish outlook sent prices higher and renewed hopes that natural gas usage will surge in coming years. And there’s clearly reason to hope that Exxon’s move will have longer-term ramifications for natural gas prices as well. Exxon made it clear that its motivation for the deal is long-term in nature. “This is not a near-term decision, this is about the next 10, 20, 30 years,” said CEO Rex Tillerson. According to the international energy agency, natural gas demand is expected to grow at 1.5% per year in coming decades, outpacing the 0.9% projected growth in demand for oil.
Still, it’s important to remember that the spot price of natural gas is only one of three factors impacting the price of UNG, and may not even be the most significant at times (see What’s Wrong With UNG? for an explanation of the other price drivers). Beyond UNG, several other ETFs that could see movement as a result of the Exxon / XTO deal (for more actionable investment ideas, sign up for our free ETF newsletter):
- United States 12 Month Natural Gas Fund (UNL): Similar in many ways to UNG, this ETF has a few critical differences. Instead of investing exclusively in near-month natural gas futures, UNL spreads exposure across the next 12 months, potentially reducing the roll yield that is incurred (or earned) when near month contracts near expiration. In its first month of trading, UNL has amassed more than $30 million in assets, making it significantly smaller than UNG, but indicating that it is becoming popular among investors.
- First Trust ISE Revere Natural Gas ETF (FCG): This ETF is based on an equal-weighted index comprised of companies that derive a substantial portion of their income from the exploration and production of natural gas. In addition to XTO, holdings include Pioneer Natural Resources Company, Cimarex Energy, and Forest Oil Corporation. While UNG has plummeted this year, FCG has performed relatively well, adding more than 40% in 2009.
- Oklahoma Exchange-Traded Fund (OOK): Based on the SPADE Oklahoma Index, this recently-launched ETF includes stocks of publicly-traded companies headquartered in the state of Oklahoma. While OOK has allocations to a number of different sectors, it is tilted towards energy companies, particularly those involved in the natural gas industry in some way. OOK’s holdings include ONEOK Partners (a major player in the storage and transportation of natural gas) and Chesapeake Energy (which has some of the largest natural gas reserves). With an expense ratio of just 0.20%, OOK is far cheaper than FCG (which charges 0.60%). See Oklahoma ETF: Worth A Close Look for a more detailed look at this fund.
Disclosure: No positions at time of writing.