Turnaround in Natural Gas?

06/10/2014 9:00 am EST

Focus: FUNDS

Jack Bowers

Editor, Fidelity Monitor & Insight

A turnaround appears to be in the making for the domestic natural gas sector, forecasts Jack Bowers, fund expert and editor of Fidelity Monitor & Insight.

Six years after the shale boom swamped the Lower 48 with excess supplies that have kept prices depressed, several factors are helping to stabilize the price of the fuel at a modestly higher level that should boost revenue for producers:

  • Cold weather. The amount of gas in storage is now at an 11-year low, and it may take a year or more for stocks to return to normal levels.

  • Drilling activity. Because profit margins on oil are greater than that of gas, most of the shale drilling activity is now concentrated in oil-rich regions like Bakken (Montana/North Dakota) and Eagle Ford (Texas).

Even if natural gas prices stabilize around $5, new drilling in gas-rich regions like Marcellus will be slow to make a comeback, because most rigs will remain where the producers can earn the highest returns (which is in Bakken and Eagle Ford).

  • Increased demand. A recent Supreme Court decision regarding EPA regulations of coal plant emissions will hasten the electric power industry's transition from coal to natural gas, further boosting demand.

  • LNG Exports. Cheniere Energy appears likely to begin exports of liquefied natural gas by the end of next year, and their potential export volume is large enough to soak up any excess supplies that might pose a pricing threat once storage levels return to normal.

Energy stocks remain volatile, but valuations are reasonably attractive because they have trailed the broad market over the last three years. Because economic growth remains sluggish, there's potential for the energy group to outperform in the coming years.

The best way to play this change is through Fidelity Select Natural Gas (FSNGX:US). The fund has 58 holdings; 46% of its $1.0 billion in assets are concentrated in these ten positions:

Halliburton (HAL), Devon Energy (DVN), Encana (ECA), Canadian Natural Resources (CNQ), Cabot Oil & Gas (COG), Southwestern Energy (SWN), AGL Resources (GAS), Husky Energy (HSE), Hess Corp. (HES), and EOG Resources (EOG).

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