Jim Cramer, the over-excited host of Mad Money on CNBC, has finally stumbled upon the problems affecting some ETFs – namely the United States Natural Gas Fund (UNG). And as can be expected, he’s outraged. The problem is, he gets entirely the wrong end of the stick. Which is a shame.
At FT Alphaville we’ve become rather obsessed with commodity ETFs. First, there were the peculiarities affecting the United States Oil Fund, and now they’ve hit the UNG.
Of course, at the time we began looking into the matter, the response from the investment community dealing with ETFs was largely that, err, we were a little obsessive, “there really wasn’t a problem here”.
Oh, how things have changed a few months on.
Cramer assesses the problem thus:
I don’t think the SEC had any idea what it was approving when they blessed this instrument because there is so much money into it is literally moving price of the commodity itself.
The way I see it is the UNG could actually and legally be manipulating the price of natural gas upwards. Not something the government wants. Because when money comes into the UNG it has to go buy more natural gas future contracts, and that buying is overwhelming the natural gas market and bidding it up regardless of the actual demand.
(*By the way, if our transcript is slightfly flawed it’s because we couldn’t get the CNBC website to work properly, but this is the gist)
That’s not actually the problem, however. The problem is a) the volatility the UNG’s position is producing in nat gas prices and b) the intensification of the contango every time the fund rolls over.
What’s more important to stress is that it is not the UNG that would ever be manipulating the price of nat gas upwards. The fund is a victim of its own size. The manipulation, if you can call it that, is the gaming of the rolls by the UNG’s counterparties. They know when and how much it has to roll; it has become a large and predictable player that, more importantly, has to roll because it has no capability of taking the contract to expiry.
Accordingly, it fails to fetch a competitive price, and the contango between the front and second month increases.
Note this chart courtesy of Olivier Jakob at Petromatrix which shows how the Jul/August contango was widening just as the fund was rolling, but abated when the roll was over.
As for bidding the price upwards. This again might seem the logical conclusion, but in actual fact, if you look at the UNG’s track record, is inconsistent with what is actually happening. The UNG is more likely to have been holding back prices outside of its rollovers while it was increasing in size. This was certainly the case for the USO. In fact, it was only when the USO began to shed WTI contracts that the rally in crude was unleashed on a larger scale.
Of course, the crude market is much much bigger than the natural gas market, so the issue of causation or corrleation should come into consideration.
However, history does appear to be repeating itself with the UNG. Now that it has begun shedding positions — natgas futures have begun rising quite inexplicably. Note this comment from Barcap:
Natural gas markets rallied today despite no real change in underlying fundamentals. The gain in natural gas prices could be due to the forecast of above-normal temperatures in Texas, the Gulf Coast, and the Midwest later this week. The July contract jumped 12 cents on the day to settle at $4.25 per MMBtu. Calendar 2009 and 2010 joined the move upward, increasing by 10 cents (2.1%) and 6 cents (1%), to $4.79 and $6.43, respectively.
This is obviously quite the opposite of what Cramer suggests. Although it’s probably too early to tell whether the trend will continue you can certainly see the impact of the UNG’s influence on the market since it began growing exponentially back in March in these charts — both in terms of volatility and in keeping the price bouncing back to lows:
Now the point is if Cramer can’t understand what’s going on, how can an average investor?
More weirdness in the UNG – FT Alphaville
The problem with commodity ETFs – FT Alphaville
Strange things still afoot in natural gas – FT Alphaville
Commodity ETF investors move significantly into natural gas – FT Alphaville
Super-natural gas – FT Alphaville
Anything but therm in the US – FT Alphaville
A self propelled pyramid? -FT Alphaville
How contango affects oil ETFs – FT Alphaville