What happened

Just when investors expected natural gas stocks to end 2021 on a strong note, the rally in most stocks was cut short this week as catalysts behind their recent run-up appeared to fade. As of 11 a.m. ET Friday, here's how some of the natural gas stocks were faring for the week:

So what

Each of these stocks were up by double digits in just the three months through last Friday, popping alongside natural gas prices, with Comstock Resources gaining nearly 60% during the period.

With low natural gas inventories triggering fears of a potential supply crunch, especially as we head into winter, when demand for gas is at its peak, natural gas prices were flying through the roof before the rally came to a grinding halt this week. Prices crashed nearly 25%, and currently hover around $4.10 per million BTUs as of this writing, versus nearly $5.50 last Friday.

Two factors have triggered the steep fall in gas prices.

A businessperson resting his head on table with computer screens in front displaying crashing stock price charts.

Image source: Getty Images.

First is the warmer-than-expected weather, and therefore lower-than-expected demand for natural gas. With the latest weather forecasts projecting higher-than-average temperatures in most parts of the U.S. this December, spot gas prices continue to crater.

Meanwhile, although the U.S. Energy Information Administration's (EIA) weekly natural gas report released on Dec. 2 showed a decline in inventories, it was at a much lower rate than expected, reflecting decelerating demand for natural gas. The report revealed 3,564 billion cubic feet (Bcf) of natural gas in storage as of Nov. 26, or a net decrease of only 59 Bcf. The total gas volume was also within the five-year average, compared with previous weeks when volumes were consistently below historical average.

With natural gas prices soaring to 12-year highs in the month of October, it's not surprising to see prices reverse course just as quickly, taking natural gas stocks along for the ride down. Several stocks, in fact, are now trading in the red so far this year, thanks primarily to this week's fall.

Higher prices helped several natural gas companies shore up their balance sheets and liquidity in recent months to spend on growth, and some have also returned more capital to shareholders. Investors worry those extra returns could dry up as natural gas prices fall.

CRK Chart

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Just in early November, for example, natural-gas producer Comstock Resources expected its free cash flow (FCF) in 2022 to "significantly" exceed its targeted $200 million given the strength in natural gas prices, and the company planned to use the incremental cash flow to pare down debt. Likewise, natural gas exploration and production company Southwestern Energy projects its FCF in the fourth quarter to increase materially, and is banking on high gas prices alongside its impending $1.85 billion acquisition of gas producer GEP Haynesville to generate FCF worth nearly $2.3 billion over the next couple of years.

Now what

Commodity stocks can fluctuate wildly with commodity prices, and that's exactly how natural gas stocks behaved this week. As an investor, though, you should remain focused on the long-term growth story of a company instead of pressing the panic button.

For that matter, natural gas prices are up slightly today, Europe is still facing a crunch, and you never know how the weather might eventually play out. In short, this week's steep fall in natural gas prices, and some of the natural gas stocks, could even turn out to be an overreaction in the coming weeks.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.