Commodity investors may know UNG as the ETF that tracks natural gas. Well, it apparently posted the worst return of any non-leveraged ETF last year. MarketWatch reports:
United States Natural Gas Fund lost almost 60% in 2009, but its difficulties went beyond falling prices for natural gas due to the poor economy and oversupply issues.
U.S. Natural Gas Fund, with assets of about $5 billion, was the worst-performing ETF in 2009 that doesn't use leverage. The natural-gas exchange-traded fund was off 56.5% for the year, while the SPDR S&P 500 ETF, which tracks U.S. large-cap stocks, gained 23.4%, according to FactSet Research.
Aside from the decline in natural-gas prices in 2009, the fund was also hit by a condition in futures markets known as "contango," in which the price of longer-dated futures contracts is higher than the spot price.
"Investors should be mindful that this fund invests in natural-gas futures and not the spot price of natural gas," wrote Morningstar's Paul Justice in his most recent analyst report on the ETF.
"This fund mostly invests in near-month futures contracts," he added. "As each month draws to a close, the fund rolls over to the next month's contract, and so forth. When the prices of those out-month contracts exceed the price of the near-month contract ... the fund loses money each time it rolls futures. That explains why this fund has oftentimes declined in value even as natural gas prices rose, as the natural gas futures market was in contango at that time."
Traders attempt to game the huge ETF by trying to jump ahead of its trades when it rolls into the near-month futures contract. Investors in the natural-gas ETF are hoping the long-anticipated rebound in prices plays out in 2010.
News to me is the following note about UNG being one of the best selling ETFs in 2009:
Despite its terrible performance, U.S. Natural Gas Fund was one of the best-selling ETFs in 2009.
According to the latest data available from the National Stock Exchange, the natural-gas ETF as of November had year-to-date net cash flows of about $5.4 billion. It placed fourth on the list of top-selling ETFs.
Commenting on the big inflows in 2009 despite the decline in prices, Hyland said it appears large numbers of investors were looking for a rebound in natural gas prices, which have risen over the past few weeks.
Matt Hougan, editor of IndexUniverse.com, said it's remarkable that in November, the ETF's year-to-date inflows were larger than its assets as investors kept pumping money into the fund all the way down. The fund in 2009 was "an inferno for destroying investors' money," he said.
There were also problems with the arbitrage mechanism because UNG stopped creating shares for a period last last year, due to some investigations over commodity manipulation by the CFTC.
Anyone following this blog wouldn't be surprised—I had several posts similar to what I'm writing now—but for those not familiar, this is a very good lesson in commodity investing.
When I say commodity investing, I'm referring to investing in actual commodities. This is completely different from investing in businesses that deal with commodities. If you are investing in natural gas, the nature of the futures curve matters a great deal, whereas natural gas stock investors aren't as vulnerable. To see how horrible this ETF was, check this out:
The top chart shows the price of natural gas while the bottom is the ETF. Although the ETF doesn't track the index that is shown above, it is supposed to be very close. Yet, we had massive losses for the UNG fundholders. The price of natural gas was largely flat last year, while UNG declined 56.5%! One of the most painful things in investing is when you get the macro call right but the security you invested in turns out to be a total dud. If you thought natural gas would hold its ground, you ended up being right; but if you invested in UNG, you had little chance of coming anywhere near break-even.
Jim Rogers always says that commodities are safer than stocks but if you aren't very good, you will lose large amounts of money very quickly and without knowing why (in contrast, stock market investors are generally bailed out by the economy because it tends to grow over the long run.) In this case, anyone misjudging the contango was roasted alive with slim chance of breaking even any time soon. However note that those betting on the contago in oil late 2008, when it looked bad for oil, when people were storing it on anything they can get their hands on, made a killing earlier last year.