Natural Gas ETF (UNG): Heads I Win, Tails You Lose

While the shortcomings of ETFs that track commodities have been well documented, the discrepancy between the price of natural gas and the ETF that is meant to track its price provides a great reminder of why many of these more exotic vehicles should be avoided.  As always, investors should know what they own and look into these vehicles before investing in them. 

The chart below compares the YTD performance of the front month natural gas futures contract and the United States Natural Gas Fund (UNG).  Through the end of August, natural gas and UNG were both down similar amounts and had tracked each other relatively closely.  Since then, however, natural gas has made a major reversal and is actually up on the year.  UNG, on the other hand, remains down over 55%.  In essence, UNG holders have missed out on the entire rally.

While the explosion in popularity of ETFs has had many positive effects and created numerous efficiencies for investors, the boom in the industry hasn't been void of some individual busts.

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Comments

[Laurent]

It is a very interesting graph for those who do not know the issues related to ETFs... but especially for those who do not know anything about backwardation/contango!

You should have added that the main reason for the discrepancy is not that UNG is badly built, but that there is a HUGE contango on Natural Gas, which have to be carefullly followed on all available future contracts on Natural Gas, not only on fronth month!

[MWC]

Why would you expect UNG (or any long-only commodity investment built around rolling futures) to increase in price as the futures curve steepens? A steeper curve makes the roll yield increasingly negative and the spot price of nat gas hasn't followed.

Profiting from a steepening futures curve is a different bet altogether and has nothing to do with the (mis)functioning of UNG.

[Sia]

This is why you DONT look at a continuous contract to determine if natural gas has gone up or down for the year. If you look at nat gas Jan 2010 futures, you see they started they ear at 7.5 and now they are trading at 5.75. So for the year, natural gas is still down ~23%. Contago takes care of bringing your loss to an even bigger %.

[JustAnotherDumbass]

It would be very instructive - at least to folks like me - for you to comment on the differences in returns between UNG and FCG. Both track NatGas, but FCG has returned +60% year to date compared to -50% for UNG.

The fact that there are bad commodities ETFs is becoming well understood - much less well understood is that there very good ones that track much better.