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September 29,
2006 – The natural gas market has provided a roller coaster ride of
profits and losses for those investing or speculating in it. It began 2005
below $6.00 an mcf (thousand cubic feet). By
December, the combination of an increasingly tight inventory, a rising oil
market, and the devastation produced by hurricane Katrina made it soar and
set a $15.75 all-time price record.
Natural gas
conceived its Bull Market in September 2001, when it arose from its $1.76
base. It is an emotional market. This can be attested to by its February 2003
temporary spike above $10.00 an mcf with its
following collapse to under $4.50 several months later. Similarly, in the
weeks leading up to hurricane Katrina’s unleashing her fury, it was trading in the $8.00 range. This all changed
when Katrina’s winds began to build and she approached the Gulf of Mexico’s prolific oil and gas fields, and
the numerous onshore storage and processing facilities that she was destined
to damage or destroy.
The spot price
for natural gas approached $4.00 an mcf earlier
this week. By so doing it broke below its $4.39 and $4.52 lows it posted in
September 2003 and September 2004 respectively. How could gas trade at nearly
$16.00 an mcf as recently
as nine months ago, and then fall 75% in price? I believe that the surfacing
of the Amaranth hedge fund collapse sheds some light on this issue.
Amaranth had
earlier success in the natural gas market. They correctly anticipated its
direction and accordingly positioned themselves in a bullish fashion. To
their detriment, when the market reversed course they continued to maintain
their existing posture and, I’ve read, they even increased their
exposure. Finally, after suffering substantial losses, they attempted to sell
their enormous hedged long positions in order to survive.
To their
misfortune the apparent size of their position was known by various large
traders who “smelled blood in the water”. They watched while
Amaranth worked in vain to exit their positions, and they likely increased
their shorts which drove the market still lower. Amaranth’s plight was
further exacerbated due to their need to meet forced margin calls. These
latter developments increased the downward pressure on the gas market and
caused Amaranth’s losses to swell. I believe that the depth to which
natural gas plunged was a direct result of the unfolding of these events.
Finally, the
banks and financial institutions that financed Amaranth called their loans.
This forced Amaranth to sell their energy book. Interestingly, it was
reportedly purchased by J.P. Morgan Chase and the Citadel Investment Group. I
suspect that they were two of if not the largest shorts in the market.
With the signing
of the agreement and transfer of their positions to Morgan and Citadel,
Amaranth took a reported loss approaching $6 billion. Simultaneously, J.P.
Morgan and Citadel were gracefully allowed to offset their enormous short
positions and bank untold profits. In effect, Morgan Chase and the Citadel
Group were likely let off the hook of having to repurchase their huge short
positions! Further, they likely did it at a steep discount to the market. If
Amaranth had not been forced into liquidating their contracts, the buying by
J.P. Morgan and Citadel to close out their futures contracts would otherwise
have forced the market significantly higher.
In my opinion,
Citadel and J.P. Morgan Chase played the game brilliantly. They garnered huge
profits while Amaranth’s investors suffered incredible losses. What is
interesting is that natural gas continued to substantially decline after
the reported September 20 sale of Amaranth’s holdings.
The saga is not
yet over. It remains to be seen if another distressed hedge fund or entity
will surface and take the natural gas market further lower. In fact, that
might be the impetus behind its continuing decline.
I believe that
natural gas is in a major, secular Bull Market. As early as June 2003, when
it was trading at $6.31, none other than the venerable Alan Greenspan stated,
“Today's tight natural gas markets have been a long time in coming, and
futures prices suggest that we are not apt to return to earlier periods of
relative abundance and low prices anytime soon”.
I heartedly
agree. Despite its temporary oversupply, if anything the U.S. supply vs. demand equation
for the commodity has become more bullish since Greenspan uttered this quote.
Further, I see no indication that significant additional supplies will be
available in the next few years at a minimum.
In my opinion,
when this price decline ends it will set the stage for what will likely be an
incredible entry point. Additionally, I believe that natural gas and the
companies that produce or explore for it are already enormously oversold and
are preparing to resume their Bull Markets.
I feel that the
natural gas price grossly overshot its downside target when it entered this
correction. This was to a large degree the result of Amaranth’s
misjudgement of the direction of the market, and the “sharks”
that astutely recognized Amaranth’s plight and capitalized on it.
Remember, J.P. Morgan and Citadel were sufficiently happy to book their
profits when it was trading in the $5.00 range
Of great
importance to myself and other investors is my belief that the gas complex
shares should perform far better in their next upleg.
When natural gas soared on three earlier occasions in its Bull Market, the
gas shares did not perform as one would expect. True, many of them multiplied
in price. However, to my thinking, gas stock investors were unwilling to use
in their decision making, any price near the $10 or $16 peak prices that the
hydrocarbon posted. I doubt if more than a few people valued these companies
using more than about a $6 mcf price.
This is understandable
because investors and other interested parties did not believe that those
prices had staying power. They had been through too many wide swings in its
price, and didn’t want to overpay and expose themselves to serious
losses as they had done in the past.
If I am correct,
this mind-set will be softened when natural gas resumes its Bull Market. If
it can surpass and remain above the $10 or so level for a number of months, I
believe that more and more investors will begin to realize that it is truly
in a secular Bull Market. In this event, they will begin to attribute
substantially higher gas prices when they evaluate a company’s worth.
I sense that
many natural gas stocks have posted or are approaching their lows, and that
their risk vs. reward levels are now exceptional. It
may require a time before gas stabilizes and resumes its Bull Market. Few
markets can sustain this sharp a free-fall and immediately reverse course and
move sharply higher. Yet, given the fact that the likes of J.P. Morgan Chase
was satisfied to cover when it was at higher levels, natural gas is likely
either at its nadir or within shooting distance of it. In any event, given
the beating that the gas exploration and producing companies have suffered,
and the likelihood that gas prices will be far higher in the foreseeable
future, I view staged entry into their shares an excellent opportunity.
______________________________
By
: Dr. Richard
S. Appel
www.financialinsights.org
The
above was excerpted from the June
2005 issue of Financial Insights © May 30, 2005
I
publish Financial Insights. It is a monthly newsletter in which I discuss
gold, the financial markets, as well as various junior resource stocks that I
believe offer great price appreciation potential.
Please
visit my website www.financialinsights.org where
you will be able to view previous issues of Financial Insights, as well as
the companies that I am presently following. You will also be able to learn
about me and about a special subscription offer.
CAVEAT
I
expect to have positions in many of the stocks that I discuss in these
letters, and I will always disclose them to you. In essence, I will be
putting my money where my mouth is! However, if this troubles you please
avoid those that I own! I will attempt wherever possible, to offer stocks
that I believe will allow my subscribers to participate without unduly
affecting the stock price. It is my desire for my subscribers to purchase
their stock as cheaply as possible. I would also suggest to beginning
purchasers of these stocks, the following:
always place limit orders when making purchases. If you don't, you run the
risk of paying too much because you may inadvertently and unnecessarily raise
the price. It may take a little patience, but in the long run you will save
yourself a significant sum of money. In order to have a chance for success in
this market, you must spread your risk among several companies. To that end,
you should divide your available risk money into equal increments. These are
all speculations! Never invest any money in these stocks that you could not
afford to lose all of
Please call the companies regularly. They are controlling
your investments.
FINANCIAL INSIGHTS is written and published by Dr. Richard Appel
and is made available for informational purposes only. Dr. Appel pledges to disclose if he directly or indirectly
has a position in any of the securities mentioned. He will make every effort
to obtain information from sources believed to be reliable, but its accuracy
and completeness cannot be guaranteed. Dr. Appel
encourages your letters and emails, but cannot respond personally. Be assured
that all letters will be read and considered for response in future letters.
It is in your best interest to contact any company in which you consider
investing, regarding their financial statements and corporate information.
Further, you should thoroughly research and consult with a professional
investment advisor before making any equity investments. Use of any
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