The No-Brainer Natural Gas Investment?

Natural gas is the hip commodity on Wall Street these days, and many investors are clamoring for a piece of the action. The problem is that the energy sector is daunting and complex. The same market shift that sends one stock skyrocketing can send others to new lows.

The "get rich quick" devil on your shoulders may suggest a few easy ways out: natural gas ETFs and ETNs. While these can act as valuable hedging devices and can be better for investors holding the commodity directly, you'd be wrong to think of the following options as home runs in the natural gas revolution.

The bad
United States Natural Gas
(NYSE: UNG  ) , iPath Seasonal Natural Gas ETN (NYSE: DCNG  ) , and Teucrium Natural Gas Fund (NYSE: NAGS  ) are three vehicles that invest in natural gas futures contracts. UNG focuses on near-month contracts, DCNG tracks an Index with an annual contract, and NAGS splits the difference by investing in the four most liquid contract months of the year.

What this means is that each instrument rolls its natural gas contract positions forward at certain points in the year and picks up new contracts for the next period. For United States Natural Gas, this is a monthly ritual, but for Tucrium's ETF it happens only four times a year.

These may seem like a no-brainer, passive way to get a piece of the natural gas revolution, but there are inherent problems. The first is contango. When the price of a far-off contract exceeds that of the "front-month" contract, these funds lose money because futures prices must move to match the spot price and therefore underperform the commodity. However, these vehicles must sell their positions to purchase another contract further into the future to avoid actual delivery -- an unprofitable Catch-22. This has been a particular problem with natural gas, because prices of the commodity have been consistently falling lately. The following chart shows the 10-year volatility of natural gas prices.

Another problem is structure. Many of these vehicles are LLCs, so investors get a K-1 instead of a 1099 each year. Complicated tax handling with these instruments also makes recording gains a big headache. Fortunately for current investors, there are no gains to report. In addition, ETNs, or exchange-traded notes, do not carry the same repayment structure that ETFs do. If the ETN provider goes belly-up, then investors are left empty-handed. The fact that the best-performing of these three instruments, iPaths ETN, has fallen by only 45% in the past six months should be a red flag as well.

The good
If this has scared you away from investing in natural gas, it shouldn't. Instead, take it as a caution against the seemingly "no-brainer" natural gas plays, and do your research about individual companies instead. There are incredible opportunities for the astute and amateur energy investor alike in this industry, and here are just a few.

First, Westport Innovations (Nasdaq: WPRT  ) has been a Motley Fool favorite for a little while now, and for good reason. The stock has risen 143% in the past 12 months, and it has the legs to run. The company specializes in converting diesel engines to run on natural gas. With advancements in fracking upping the natural gas supply, the energy source remains cheap. As oil continues to rise, natural gas becomes an increasingly more economical fuel source, especially for a fuel-dependent sector like trucking.

Which brings us to another great pick: Clean Energy Fuels (Nasdaq: CLNE  ) . This company develops natural gas fueling stations in the United States and Canada. This is a huge win for one of its target markets: truckers. Converting to natural gas can save these companies up to 40% of their fuel costs compared with oil and keep them competitive against the rails as an affordable method of shipping. Not only that, but also the huge number of garbage trucks -- notably those from Waste Management -- that are converting to natural gas serves as further vindication that this can be a viable fuel source.

The best
As good as these natural gas stocks are, there is one energy stock that could be even better. In fact, it could be The Only Energy Stock You'll Ever Need. It's a well-positioned equipment provider that's poised to make investors today rich off the next energy spike. Read more about it.

Austin Smith owns no shares of the companies mentioned here. The Motley Fool owns shares of Waste Management. Motley Fool newsletter services have recommended buying shares of Clean Energy Fuels, Waste Management, and Westport Innovations and creating a write covered strangle position in Waste Management. The Motley Fool has a disclosure policy. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


Read/Post Comments (21) | Recommend This Article (119)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 03, 2012, at 6:21 PM, Daveoffv wrote:

    So what is your recommendation on CLNE? It has been a loser since Fool's recommendation. Should I buy more?

  • Report this Comment On April 03, 2012, at 7:31 PM, lovesaves wrote:

    CLNE is a very risky bet. Yes, there will be lots of vehicles running on natural gas. There will also be lots of competition in the fueling station business. Chesapeake and General Electric have already formed a partnership and more large players will undoubtedly get into the action. Also, all of the large oil companies have large natural gas reserves and they don't need CLNE as a partner.

  • Report this Comment On April 05, 2012, at 6:32 AM, Kdent83 wrote:

    I guess I just don't understand the metrics of Westport. The company has lost money in each of the last ten years. This company is no startup company. Are they subsidized by Canada? I was thought that earnings ment something. Can you help me understand?

  • Report this Comment On April 05, 2012, at 8:57 AM, TMFBWItime wrote:

    @Daveoffv

    I can not provide specific advice regarding your portfolio since it depends on your risk tolerance, current weightings, and investment objectives. I do have conviction in natural gas as a key fuel of the future, and if you share this perspective, than Clean Energy Fuels is one of the best ways to profit.

    @lovesaves

    CLNE is certainly a risky bet, but it has a head start on the competition and is very wisely targeting the trucking industry before trying to bite off more than it can chew.By building the essential infrastructure for an essential part of our economy, they can lock in relevance and expand from there. The company hopes to capture 3.2 million class 8 trucks in the near future.

    @Kdent83

    It's always hard to invest in a company that's losing money, but it's important to remember we're buying great companies, not great stocks here. Sometimes this means making a bet on the future, and that's how we beat Wall-Street. If we waited for them to be enormously profitable before we gave them the thumbs up, then we'd have lost out on some of the best gains.In CLNE's case, the company is going through a massive, and capital intensive, build out which reduces profitability right now, but builds a foundation for the future. The fact that Westport is up 172% since The Fool recommended it is just another example of this long-term, forwarding-looking strategy paying off big.

  • Report this Comment On April 06, 2012, at 11:30 AM, unsage wrote:

    Kdent83 is so right. The way I look at it Fools recommendations are for 2 companies at different positions in ths NG supply chain -- one in conversion technology for diesel based vehicles -- the other CLNE in the filling stations which will perforce be required by the hundreds as more vehicles convert. Also that way neither is competing with CHK or Exx or GE which are into E&P and pipelines -- only GE could become a competitor for WPRT if they decide to research alternative ways for switching combustion. I would go positive on both, given a good entry point -- for WPRT mine was at 28! CLNE I would have to weigh.

  • Report this Comment On April 06, 2012, at 12:47 PM, logotrix wrote:

    Isn't there a glut of natural gas and this over-supply has driven down price (and is keeping it down)? This is what I'm told by people active in the energy sector, but perhaps someone out there can confirm or deny my own understanding of the price here.

  • Report this Comment On April 06, 2012, at 12:48 PM, TheOthermfa wrote:

    You say, "[WPRT] has risen 143% in the past 12 months...", but when I click the link provided it shows a roughly 43% rise. Am I missing something, or did you carry an extra 1 somwhere?

  • Report this Comment On April 06, 2012, at 12:58 PM, Fonz56 wrote:

    Fools keeps flounting Westpoint. Its up 172% I suspect because of investors that listen to money advisors. Reseach will tell you that maybe at WPRT nothing new has came out of their company. Since the company has been "developing" the fuel injector for automobiles the U.S. has been to the moon and back developed flatscreen TV along with the speed of light for telephones among other things. And I would once again repeat natural gas will NOT run on a carburetor engine. It might even be better to regress progress and GO back to pre-1998 and use engines with carburetors AND add natural gas. To convert a carburetor engine than cost a little more than $100. Advisors and money managers are in the game for the money. Everytime I hear this argument,,,I wonder just who these "advisors" are working for. People that bought WPRT low should feel lucky and fortunate.

  • Report this Comment On April 06, 2012, at 2:08 PM, TMFBWItime wrote:

    @TheOthermfa

    This article was written at the end of March and published on April 1. If you look at the stock price from mid / late March 2011 until then the returns are far greater. Also, since this article was first published Westport has fallen off a bit.

    Fool on!

  • Report this Comment On April 06, 2012, at 2:22 PM, Lonetinker wrote:

    I just $7/s on WPRT. Why u still recommend WPRT?

  • Report this Comment On April 06, 2012, at 3:07 PM, Edeskimo wrote:

    Westport is a very risky stock because they have never been profitable and are attempting to sell natural gas conversions to current diesel engines. They are also entering into agreements to build native natural gas engines for new vehicles (agreements with Ford, Volvo, Cummins, Chinese company).

    I do think they will eventually be profitable but it is probably at least 2 years away.

    The stock was recently prohibitively expensive after a major runup in the stock price.

    Now is a good time to watch the stock for a sign of a turnaround in sentiment but it is in near freefall having lost 25% of its market cap in 2 weeks.

    If you really want the company right now and will hold for a few years you could try and enter with an in-the-money put sell as it will knock a couple of bucks off the price of the stock.

  • Report this Comment On April 06, 2012, at 4:13 PM, tizwiz wrote:

    wprt is done hosed me. I had a small acct. with tamtd. and it has done just about sucked me dry.

    probably about the worst $79.00 I have spent.

    Has cost me over 10k

  • Report this Comment On April 06, 2012, at 4:25 PM, decbutt wrote:

    Fonz - punctuate.

    You know what you are trying to say. We don't.

  • Report this Comment On April 06, 2012, at 4:29 PM, decbutt wrote:

    Westport.

    I am not even looking at this company any more.

    They have had long enough to make a profit.

    More revenue will give them more opportunity to find new ways of not converting revenue profit.

    I think they are the Overstock of Nat Gas.

  • Report this Comment On April 06, 2012, at 10:12 PM, TheOthermfa wrote:

    "...published on April 1."

    Ah, now I get it :).

  • Report this Comment On April 07, 2012, at 9:40 PM, XK120Fanatic wrote:

    INHO, the reason that WPRT has taken a hit recently is twofold:

    1) the natural gas fuel bill did not pass last month

    (and this was a criteria listed by MF)

    2) their partner Cummings diesel, recently announced that they were developing their own NG powered engine.

    While I very much like WPRT, I always have the nagging question in my mind: if NG is going to be so big, why do the big boys need a small company like WPRT????

  • Report this Comment On April 10, 2012, at 7:45 AM, rick774 wrote:

    given the current drop in price i am adding more. No one seems to give much value to the patent portfolio that will likely be a barrier to others from entering this market. I do say this with caution however since I have been badly burned on patent play stocks in the past. maybe the canadian govt will do a better job of protecting patents than the US does.

  • Report this Comment On April 11, 2012, at 12:47 PM, aldousworp wrote:

    How will the government collect taxes on natural gas for transportation? If people start filling from home they will pay much lower tax than they pay for gasoline. Is this one reason Obama has dragged his feet on supporting NG?

  • Report this Comment On April 11, 2012, at 9:30 PM, 1Demeter wrote:

    The biggest problem with natural gas is one that you haven't even discussed: the poisonous nature of hydrofracking in order to extract it and what companies have to do with the "water" that is left from the process. We now have evidence that the swarm of earthquakes in the midwest has been due to this used and chemical laden water being infused into deep layers of earth, causing slippages in local geologic plates we didn't know existed before -- not to mention the destruction of local roads and forests and watersheds etc. on the surface.

    But never mind that, frack away guys and make your money, because the last generation of mankind can always be given that Kool Aid. But you won't be left holding the cup -- that will be your grandchildren. This is the kind of "investment" that makes me absolutely certain that mankind is too stupid to survive its own selfishness.

  • Report this Comment On April 12, 2012, at 4:03 PM, Mlockin wrote:
  • Report this Comment On April 30, 2012, at 4:43 AM, thidmark wrote:

    "But you won't be left holding the cup -- that will be your grandchildren."

    You mean, like the $15 trillion dollar debt (and counting) our "green" President is leaving them??

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