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How to Pipe Portfolios With Natural Gas

By 2025, natural gas will have replaced coal as the second-most popular fuel, and it’ll be the fastest-growing fuel between now and 2040. That’s according to Exxon’s (XOM) latest long-term energy outlook report, released today.

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There are several ways that individual investors can get exposure to this long-term trend. The most straightforward approach would be to buy an ETF that tracks natural gas futures. A natural gas ETF “is a long-term buy for somebody who believes the fundamental story that natural gas is going to be a long-term replacement for oil,” says Jack Reutemann, the founder and CEO of Research Financial Strategies. For long-term investors, the Teucrium Natural Gas Fund (NAGS) is likely the best bet, says Abraham Bailin, an ETF analyst with Morningstar.

To be sure, natural gas prices have fallen over the past couple of years because of abundant supply. Proponents believe that falling prices will ultimately increase demand enough to keep up with that growing supply, but critics counter that supply could turn out to be so vast that demand can’t keep up. Part of the demand for natural gas is also based on the drive to find cleaner energy sources, these critics argue, so if the U.S. or the world stops pushing for cleaner energy, that could weaken demand for natural gas.

Still, those wishing to invest can also get exposure to increased demand for natural gas by betting on pipeline MLPs (master limited partnerships). “MLP securities are really just a toll road. They receive a payment based on the volume going through their pipes,” Bailin says. That means their revenue isn’t based on the price of natural gas as much as the overall demand for it, he says. There are several ETFs of MLPs, and the best option for investors who believe demand for natural gas will rise over the long term is the JP Morgan Alerian MLP ETN (AMJ), Bailin says.

Some individual stocks also offer this kind of exposure. One pipeline company Morningstar analysts like is Spectra Energy (SE). Another option is to bet on the companies that will benefit if, as Exxon projects, the U.S. uses less coal in the future. “Even at today’s low prices, it is still fairly expensive to burn natural gas for power generation,” says Mark Barnett, a Morningstar electric utility analyst. Nuclear operators like Exelon (EXC) would likely benefit from decreased use of coal; Exelon, however, also comes with high exposure to volatile power prices, so it’s best-suited for investors with a bigger appetite for risk, Barnett says.

Wealthier investors working with an advisor could also consider direct investment in natural gas exploration. “I’d rather get in on the ground level,” because such investment is less correlated to the broader market than an MLP, ETF, or stock, says Robert Russell, the president of Russell & Company. Most of these projects are only open to accredited investors with a net worth of at least $1 million, but some have a few spots open to less-wealthy investors, Russell says. Investors need to look at these as long-term investments, he says. A good project might break even within 4 to 6 years and offer between 8 and 10% income in the meantime, he says.

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    • AMJ is actually a borrowing (“note,” a credit obligation) of the issuing bank, not owning any real assets it tracks in an isolated account somewhere. If the Bank’s credit goes downhill, so will this Note despite any trends in the master limited partnerships. Lehman had issued similar stuff. (Not suggesting issuing Bank will fail, it’s in the top 3 Too-Big-to-Fails. May come to have same creditworthiness as other 2, Citi or BofA, lack thereof.) There are creditable Funds out there that OWN the MLPs: TYY, TYG, SRV, etc.

    • “JP Morgan Alerian MLP ETN (AMJ), Bailin says.”

      … if you don’t mind paying 0.85% in fees.

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