Natural Gas ETF

There have been few ETF products that have come under more scrutiny than the Natural Gas ETF – UNG.  This etf was an instant hit with investors just as USO was with oil investors, however UNG has been plagued with not only moderate to severe cantango but also a never ending bear market in natural gas.

Look at the performance of UNG since inception:

This dismal performance is partially caused by having to roll futures forward on a regular basis.  When the contracts are rolled forward in the fall from September – January the fund often has to buy at sharply higher prices – this is called contago.   This makes it impossible for UNG to capture the improvements in the cash market because they are already reflected in the way futures contracts are priced.  For this reason futures based ETFs such as UNG work well when prices are moving fast, but are horrible in sideways markets.  As you can see the price of natural gas has really gone nowhere ever since the 2008 crash in prices.

Despite this miserable performance UNG has remained an incredibly popular ETF trading millions of shares per day.  There is another alternative to UNG but it has failed to gain much attention, it trades under the ticker symbol UNL.

UNL – United States 12 Month Natural Gas Fund LP

This fund is from the same ETF sponsor as UNG but spreads out the futures purchases over the next year. This is an effort to reduce the volatility caused by contango as they are only rolling 1/12th of the holdings each month. As you can see by the chart below this has a slight positive effect in the sideways market of the past couple years.

It’s still my though that you are better off in the Natural Gas MLPs instead of the futures based ETFs because you capture the monthly dividend while you wait. The only time this wouldn’t be true is during a raging bull market (like 2006-2007) because futures prices strongly outperform in that type of environment.