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These Commodity Stocks Are on the Brink of Disaster

By Tom Dyson, publisher, The Palm Beach Letter
Tuesday, September 29, 2009

 Investors in natural gas stocks have lost their minds. They're about to lose their wallets, too...

There's a major wipeout coming in the natural gas business. North America has too many natural gas producers. The industry needs a major cleaning out. The most inefficient, high-cost producers must fold. This will bring supply and demand back into balance.

Low prices are the market's mechanism for culling the weak players. Four weeks ago, natural gas prices hit a seven-year low of $2.50 per thousand cubic feet. But so far, nothing's happened. No player wants to cut production when they've invested so much money developing it. "Getting $3 is better than nothing," they think. "Better to pump out more now before it falls even farther."


In the last four weeks, gas has jumped above $4 and is closing in on $5. With higher prices, production is growing. According to industry researcher Baker Hughes, the number of rigs drilling for natural gas in the United States has gained in nine of the last 10 weeks. Meanwhile, the oversupply of gas is so great, we've almost run out of room to store it.

The Energy Information Administration says U.S. natural gas inventories rose again last week. They are now a just a chip shot from the record high hit in November 2007. Natural gas storage in producing regions – including Texas, Louisiana, and Oklahoma – already reached a record high last month.

Aubrey McClendon, CEO of Chesapeake Energy, the largest independent gas producer in America, figures America's natural gas industry will fill up all available storage by the end of the year. There'll be "involuntary curtailments," he says.

This chart compares UNG, the exchange-traded fund (ETF) for natural gas (in black), with XNG, the AMEX index of natural gas producers (in blue). XNG is an index of natural gas producers like Chesapeake, Devon, Anadarko, and Apache.


In the last two years, the price of natural gas has fallen almost 70%, yet natural gas stocks are still trading at almost the same prices. In other words, investors in natural gas stocks have totally ignored the huge collapse in natural gas prices.

And get this...

This chart shows the AMEX oil producer index (in black) cast against the AMEX natural gas producer index (in blue). The AMEX oil producer index contains names like ConocoPhillips, Chevron, and Hess.


Natural gas stocks have thrashed oil stocks over the last nine months, even though the price of oil gained 60% over this time, while the price of natural gas lost 13%.

 
Related Articles
We're Headed for a Huge Wipeout in Natural Gas
This Commodity Is About to Collapse
 
The guillotine is about to fall on natural gas production. And I can't see any reason for this strength in natural gas stocks. My only conclusion: Investors in natural gas stocks are living in la-la land. The dream ends when storage runs out or gas prices fall back down again. 

Aggressive traders should immediately short high-cost, speculative natural gas stocks. Conservative investors should wait for the storm to pass. They'll be able to pick up the highest-quality producers at bargain prices. I expect some of these companies will be paying 20%-30% dividend yields in the aftermath.

I'll let you know when the time comes...

Good investing,

Tom




Market Notes


THIS EXPLOSIVE SECTOR IS STILL RISING

The latest on small resource companies: It's still a quiet, orderly bull market.

Small companies that hunt for commodities like gold, silver, uranium, oil, and natural gas should be a fixture on a trader's watch list. When commodities in general move up, these players can shoot hundreds of percent higher. Folks are fascinated with the promise of big mineral and petroleum finds, so the sector tends to draw in a lot of "hot money."

There wasn't anything hot about 2008 for this sector. The "Dow Industrials of small resource companies," the Venture Index, lost 75% of its value in just months. But as we've been covering for the past 10 months, the Venture struck a bottom in December. It's enjoyed a textbook bull market of higher highs and higher lows since.

Keep an eye on this new bull market. If gold, silver, uranium, and oil prices remain robust over the coming years, this bull market will continue... and will be a constant generator of big stock winners.
 


In The Daily Crux



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