Tuesday, September 26, 2006

Jim Rogers: Time to buy natural gas.

Here's an interesting trade.

Jim Rogers, former hedge fund manager, on Cavuto on Business this weekend:

"Two hedge funds have collapsed recently, have driven down the price of natural gas. Two things:

It's gonna be cheaper to heat your house if you use natural gas; if you don't use natural gas, switch to natural gas.

But secondly, buy natural gas, you'll make a fortune."

[Note: The transcript on Foxnews.com contains only the first comment about using natural gas in your house. The quote above is more accurate.]


One of the funds he's referring to is Amaranth which hasn't collapsed and is trying to stay open, though that seems a little unlikely given the circumstances, so ultimately he'll probably be right. Using borrowed money to gain serious leverage, they played natural gas futures for early 2007, in the process basically cornering the market for themselves. When they ran out of money to keep buying, it turned out everybody else had taken their toys and gone home (quite possibly on purpose), and the market plunged, leaving Amaranth holding the bag.

The other fund he's likely referring to is MotherRock LP which also incinerated itself with natural gas trades. The notable thing about MotherRock is that one of the managers was a former President of the New York Mercantile Exchange (a major commodities exchange) who probably had a little bit of experience with trading commodities before trying his hand at running a hedge fund portfolio.

So, justifiably, natural gas is considered the most volatile commodity of all, and it has certainly proved it recently, burning even those with experience. After spiking last year to $15, it's now down to under $5.

Jim Rogers is probably counting on three things to support this trade: First, that the blowup of these two hedge funds has created a temporary dislocation in the price of natural gas to the downside, and secondly that natural gas is now trading at the low end of it's range in it's normal relation to oil. This idea is also supported by energy analyst Kurt Wulff, who recently wrote "Natural gas may not have positive price momentum, but it has value at near the lowest ratio to crude oil in the 00's decade." Finally, we are just ahead of winter and natural gas has a tendency to spike sharply if you get a period of very cold weather during the winter.

A couple of things to keep in mind: This is a trade he is recommending, so you need to keep a watchful eye on your position to sell into a spike. Predictions for this winter suggest it will be warmer than normal.

If you don't trade the commodity, you could take a look at stocks that generally trade along with natural gas, some of the ones I found correlated are EGN, PXP and WMB. The larger producers of natural gas include COP, ECA, EOG, APC, XTO, CHK.