UNITED STATES 12 MONTH NATURAL GAS FUND, LP
10-Ks and 10-Qs
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-Q
|
x
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Quarterly
report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934 for the quarterly period ended March 31,
2010.
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OR
|
¨
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Transition
report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934 for the transition period from
to
.
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Commission
File Number: 001-34535
United
States 12 Month Natural Gas Fund, LP
(Exact
name of registrant as specified in its charter)
|
Delaware
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26-0431733
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|
|
(State
or other jurisdiction of
incorporation
or organization)
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(I.R.S.
Employer
Identification
No.)
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1320
Harbor Bay Parkway, Suite 145
Alameda,
California 94502
(Address
of principal executive offices) (Zip code)
(510)
522-9600
(Registrant’s
telephone number, including area code)
N/A
(Former
name, former address and former fiscal year, if changed since last
report)
Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
x
Yes
¨
No
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files).
¨
Yes
¨
No
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
|
Large
accelerated filer
¨
|
Accelerated
filer
¨
|
|
Non-accelerated
filer
x
|
Smaller
reporting company
¨
|
|
(Do
not check if a smaller reporting
company)
|
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
¨
Yes
x
No
UNITED
STATES 12 MONTH NATURAL GAS FUND, LP
Table
of Contents
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Page
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Part
I. FINANCIAL INFORMATION
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Item
1. Condensed Financial Statements
.
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1
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Item
2. Management’s Discussion and Analysis of Financial Condition and
Results of Operations.
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15
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Item
3. Quantitative and Qualitative Disclosures About Market
Risk.
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29
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Item
4. Controls and Procedures.
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30
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Part
II. OTHER INFORMATION
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Item
1. Legal Proceedings.
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32
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Item
1A. Risk Factors.
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32
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Item
2. Unregistered Sales of Equity Securities and Use of
Proceeds.
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32
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Item
3. Defaults Upon Senior Securities.
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32
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Item
4. Reserved.
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32
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Item
5. Other Information.
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32
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Item
6. Exhibits.
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32
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Index
to Condensed Financial Statements
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Documents
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Page
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|||
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Condensed
Statements of Financial Condition at March 31, 2010 (Unaudited) and
December 31, 2009
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2
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|||
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Condensed
Schedule of Investments (Unaudited) at March 31, 2010
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3
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|||
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Condensed
Statement of Operations (Unaudited) for the three months ended March 31,
2010
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4
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|||
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Condensed
Statement of Changes in Partners’ Capital (Unaudited) for the three months
ended March 31, 2010
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5
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|||
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Condensed
Statements of Cash Flows (Unaudited) for the three months ended March 31,
2010 and 2009
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6
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|||
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Notes
to Condensed Financial Statements for the period ended March 31, 2010
(Unaudited)
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7
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|||
1
United
States 12 Month Natural Gas Fund, LP
Condensed
Statements of Financial Condition
At
March 31, 2010 (Unaudited) and December 31, 2009
|
March 31, 2010
|
December 31, 2009
|
|||||||
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Assets
|
||||||||
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Cash
and cash equivalents (Note 5)
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$ | 28,636,671 | $ | 32,056,391 | ||||
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Equity
in UBS Securities LLC trading accounts:
|
||||||||
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Cash
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11,523,658 | 3,940,416 | ||||||
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Unrealized
gain (loss) on open commodity futures contracts
|
(7,694,610 | ) | 1,662,670 | |||||
|
Receivable
from General Partner
|
138,538 | 136,678 | ||||||
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Interest
receivable
|
664 | 729 | ||||||
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Other
assets
|
1,183 | - | ||||||
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Total
assets
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$ | 32,606,104 | $ | 37,796,884 | ||||
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Liabilities
and Partners’ Capital
|
||||||||
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Professional
fees payable
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$ | 151,600 | $ | 140,800 | ||||
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General
Partner management fees payable (Note 3)
|
16,471 | 14,983 | ||||||
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Brokerage
commission fees payable
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3,625 | 3,200 | ||||||
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Other
liabilities
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2,768 | 753 | ||||||
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Total
liabilities
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174,464 | 159,736 | ||||||
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Commitments and Contingencies
(Notes 3, 4 and 5)
|
||||||||
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Partners’
Capital
|
||||||||
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General
Partner
|
- | - | ||||||
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Limited
Partners
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32,431,640 | 37,637,148 | ||||||
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Total
Partners’ Capital
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32,431,640 | 37,637,148 | ||||||
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Total
liabilities and partners’ capital
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$ | 32,606,104 | $ | 37,796,884 | ||||
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Limited
Partners’ units outstanding
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800,000 | 700,000 | ||||||
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Net
asset value per unit
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$ | 40.54 | $ | 53.77 | ||||
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Market
value per unit
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$ | 40.59 | $ | 54.20 | ||||
See
accompanying notes to financial statements.
2
United
States 12 Month Natural Gas Fund, LP
Condensed
Schedule of Investments (Unaudited)
At
March 31, 2010
|
Loss
on Open
|
||||||||||||
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Number
of
|
Commodity
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%
of Partners'
|
||||||||||
|
Contracts
|
Contracts
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Capital
|
||||||||||
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Open
Futures Contracts - Long
|
||||||||||||
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United
States Contracts
|
||||||||||||
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NYMEX
Natural Gas Futures NG contracts, expire May 2010
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58 | $ | (700,980 | ) | (2.15 | ) | ||||||
|
NYMEX
Natural Gas Futures NG contracts, expire June 2010
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58 | (713,660 | ) | (2.20 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire July 2010
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58 | (680,020 | ) | (2.10 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire August 2010
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58 | (681,480 | ) | (2.10 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire September 2010
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58 | (656,040 | ) | (2.03 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire October 2010
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59 | (686,460 | ) | (2.12 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire November 2010
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58 | (684,130 | ) | (2.11 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire December 2010
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58 | (642,520 | ) | (1.97 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts , expire January 2011
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58 | (808,510 | ) | (2.50 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire February 2011
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58 | (766,250 | ) | (2.36 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire March 2011
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58 | (549,770 | ) | (1.70 | ) | |||||||
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NYMEX
Natural Gas Futures NG contracts, expire April 2011
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59 | (124,790 | ) | (0.39 | ) | |||||||
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Total
Open Futures Contracts
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698 | $ | (7,694,610 | ) | (23.73 | ) | ||||||
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Principal
Amount
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Market
Value
|
|||||||||||
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Cash
Equivalents
|
||||||||||||
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United
States - Money Market Funds
|
||||||||||||
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Fidelity
Institutional Government Portfolio – Class I
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$ | 13,501,070 | $ | 13,501,070 | 41.63 | |||||||
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Goldman
Sachs Financial Square Funds - Government Fund – Class SL
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7,500,392 | 7,500,392 | 23.13 | |||||||||
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Morgan
Stanley Institutional Liquidity Fund - Government
Portfolio
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6,000,186 | 6,000,186 | 18.50 | |||||||||
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Total
Cash Equivalents
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$ | 27,001,648 | 83.26 | |||||||||
See
accompanying notes to financial statements.
3
United
States 12 Month Natural Gas Fund, LP
Condensed
Statement of Operations (Unaudited)
For
the three months ended March 31, 2010
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Three months
|
||||
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ended
March 31, 2010
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||||
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Income
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||||
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Loss
on trading of commodity futures contracts:
|
||||
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Realized
loss on closed positions
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$ | (11,250 | ) | |
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Change
in unrealized loss on open positions
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(9,357,280 | ) | ||
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Interest
income
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1,882 | |||
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Other
income
|
1,000 | |||
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Total
loss
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(9,365,648 | ) | ||
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Expenses
|
||||
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Professional
fees
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151,600 | |||
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General
Partner management fees (Note 3)
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52,247 | |||
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Brokerage
commission fees
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2,020 | |||
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Other
expenses
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2,577 | |||
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Total
expenses
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208,444 | |||
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Expense
waiver (Note 3)
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(138,538 | ) | ||
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Net
expenses
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69,906 | |||
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Net
loss
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$ | (9,435,554 | ) | |
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Net
loss per limited partnership unit
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$ | (13.23 | ) | |
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Net
loss per weighted average limited partnership unit
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$ | (13.23 | ) | |
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Weighted
average limited partnership units outstanding
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713,333 | |||
See
accompanying notes to financial statements.
4
United
States 12 Month Natural Gas Fund, LP
Condensed
Statement of Changes in Partners’ Capital (Unaudited)
For
the three months ended March 31, 2010
|
General Partner
|
Limited Partners
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Total
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||||||||||
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Balances,
at December 31, 2009
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$ | - | $ | 37,637,148 | $ | 37,637,148 | ||||||
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Addition
of 100,000 partnership units
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- | 4,230,046 | 4,230,046 | |||||||||
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Net
loss
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- | (9,435,554 | ) | (9,435,554 | ) | |||||||
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Balances,
at March 31, 2010
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$ | - | $ | 32,431,640 | $ | 32,431,640 | ||||||
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Net
Asset Value Per Unit
|
||||||||||||
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At
December 31, 2009
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$ | 53.77 | ||||||||||
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At
March 31, 2010
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$ | 40.54 | ||||||||||
See
accompanying notes to financial statements.
5
United
States 12 Month Natural Gas Fund, LP
Condensed
Statements of Cash Flows (Unaudited)
For
the three months ended March 31, 2010 and 2009
|
Three
Months Ended
March
31, 2010
|
Three
Months Ended
March
31, 2009
|
|||||||
|
Cash
Flows from Operating Activities:
|
||||||||
|
Net
loss
|
$ | (9,435,554 | ) | $ | - | |||
|
Adjustments
to reconcile net loss to net cash used in operating
activities:
|
||||||||
|
Increase
in commodity futures trading account – cash
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(7,583,242 | ) | - | |||||
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Unrealized
loss on futures contracts
|
9,357,280 | - | ||||||
|
Increase
in receivable from General Partner
|
(1,860 | ) | - | |||||
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Increase
in interest receivable and other assets
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(1,118 | ) | - | |||||
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Increase
in General Partner management fees payable
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1,488 | - | ||||||
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Increase
in professional fees payable
|
10,800 | - | ||||||
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Increase
in brokerage commission fees payable
|
425 | - | ||||||
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Increase
in other liabilities
|
2,015 | - | ||||||
|
Net
cash used in operating activities
|
(7,649,766 | ) | - | |||||
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Cash
Flows from Financing Activities:
|
||||||||
|
Subscription
of partnership units
|
4,230,046 | - | ||||||
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Net
cash provided by financing activities
|
4,230,046 | - | ||||||
|
Net
Decrease in Cash and Cash Equivalents
|
(3,419,720 | ) | - | |||||
|
Cash and Cash
Equivalents
, beginning of period
|
32,056,391 | 1,000 | ||||||
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Cash and Cash
Equivalents
, end of period
|
$ | 28,636,671 | $ | 1,000 | ||||
See
accompanying notes to financial statements.
6
United
States 12 Month Natural Gas Fund, LP
Notes
to Condensed Financial Statements
For
the period ended March 31, 2010 (Unaudited)
The
United States 12 Month Natural Gas Fund, LP (“US12NG”) was organized as a
limited partnership under the laws of the state of Delaware on June 27,
2007. US12NG is a commodity pool that issues limited partnership
units (“units”) that may be purchased and sold on the NYSE Arca, Inc. (the “NYSE
Arca”). US12NG will continue in perpetuity, unless terminated sooner upon the
occurrence of one or more events as described in its Amended and Restated
Agreement of Limited Partnership dated as of October 30, 2009 (the “LP
Agreement”). The investment objective of US12NG is for the changes in percentage
terms of its units’ net asset value to reflect the changes in percentage
terms of the spot price of natural gas delivered at the Henry Hub,
Louisiana, as measured by the changes in the average of the prices of 12 futures
contracts for natural gas traded on the New York Mercantile Exchange (the
“NYMEX”), consisting of the near month contract to expire and the contracts
for the following 11 months for a total of 12 consecutive months’ contracts,
except when the near month contract is within two weeks of expiration, in which
case it will be measured by the futures contracts that are the next month
contract to expire and the contracts for the following 11 consecutive months,
less US12NG’s expenses. US12NG accomplishes its objective through
investments in futures contracts for natural gas, crude oil, heating oil,
gasoline and other petroleum-based fuels that are traded on the NYMEX, ICE
Futures or other U.S. and foreign exchanges (collectively, “Futures Contracts”)
and other natural gas-related investments such as cash-settled options on
Futures Contracts, forward contracts for natural gas, cleared swap contracts and
over-the-counter transactions that are based on the price of natural gas, crude
oil and other petroleum-based fuels, Futures Contracts for natural gas and
indices based on the foregoing (collectively, “Other Natural
Gas-Related Investments”). As of March 31, 2010, US12NG held
698
Futures Contracts traded on
the NYMEX.
US12NG
commenced investment operations on November 18, 2009 and has a fiscal year
ending on December 31. United States Commodity Funds LLC (formerly known as
Victoria Bay Asset Management, LLC) (the “General Partner”) is responsible
for the management of US12NG. The General Partner is a member of the National
Futures Association (the “NFA”) and became a commodity pool operator
registered with the Commodity Futures Trading Commission (the “CFTC”) effective
December 1, 2005. The General Partner is also the general partner of the
United States Oil Fund, LP (“USOF”), the United States Natural Gas Fund, LP
(“USNG”), the United States 12 Month Oil Fund, LP (“US12OF”), the United States
Gasoline Fund, LP (“UGA”) and the United States Heating Oil Fund, LP (“USHO”),
which listed their limited partnership units on the American Stock Exchange (the
“AMEX”) under the ticker symbols “USO” on April 10, 2006, “UNG” on April
18, 2007, “USL” on December 6, 2007, “UGA” on February 26, 2008 and “UHN”
on April 9, 2008, respectively. As a result of the acquisition of the AMEX by
NYSE Euronext, each of USOF’s, USNG’s, US12OF’s, UGA’s and USHO’s units
commenced trading on the NYSE Arca on November 25, 2008. The General Partner is
also the general partner of the United States Short Oil Fund, LP (“USSO”), which
listed its limited partnership units on the NYSE Arca on September 24, 2009. The
General Partner has also filed registration statements to register units of the
United States Brent Oil Fund, LP (“USBO”) and the United States Commodity Index
Fund (“USCI”).
The
accompanying unaudited condensed financial statements have been prepared in
accordance with Rule 10-01 of Regulation S-X promulgated by the U.S.
Securities and Exchange Commission (the “SEC”) and, therefore, do not include
all information and footnote disclosure required under accounting principles
generally accepted in the United States of America. The financial
information included herein is unaudited; however, such financial
information reflects all adjustments which are, in the opinion of management,
necessary for the fair presentation of the condensed financial statements
for the interim period.
US12NG issues
units to certain authorized purchasers (“Authorized Purchasers”) by offering
baskets consisting of 100,000 units (“Creation Baskets”) through ALPS
Distributors, Inc., as the marketing agent (the “Marketing Agent”). The purchase
price for a Creation Basket is based upon the net asset value of a unit
calculated shortly after the close of the core trading session on the NYSE Arca
on the day the order to create the basket is properly received. In addition,
Authorized Purchasers pay US12NG a $1,000 fee for each order placed
to create one or more Creation Baskets or to redeem one or more baskets
consisting of 100,000 units (“Redemption Baskets”). Units may be purchased
or sold on a nationally recognized securities exchange in smaller increments
than a Creation Basket or Redemption Basket. Units purchased or sold on a
nationally recognized securities exchange are not purchased or sold at the net
asset value of US12NG but rather at market prices quoted on such
exchange.
7
In
November 2009, US12NG initially registered 30,000,000 units on Form S-1 with the
SEC. On November 18, 2009, US12NG listed its units on the NYSE Arca under the
ticker symbol “UNL”. On that day, US12NG established its initial net asset value
by setting the price at $50.00 per unit and issued 200,000 units in
exchange for $10,001,000. US12NG also commenced investment operations
on November 18, 2009 by purchasing Futures Contracts traded on the NYMEX based
on natural gas.
As of
March 31, 2010, US12NG had registered a total of
30,000,000
units.
Revenue
Recognition
Commodity
futures contracts, forward contracts, physical commodities and related options
are recorded on the trade date. All such transactions are recorded on the
identified cost basis and marked to market daily. Unrealized gains or losses on
open contracts are reflected in the condensed statement of financial condition
and in the difference between the original contract amount and the market value
(as determined by exchange settlement prices for futures contracts and related
options and cash dealer prices at a predetermined time for forward contracts,
physical commodities, and their related options) as of the last business day of
the year or as of the last date of the condensed financial statements. Changes
in the unrealized gains or losses between periods are reflected in the condensed
statement of operations. US12NG earns interest on its assets
denominated in U.S. dollars on deposit with the futures commission
merchant at the overnight Federal Funds Rate less 32 basis points. In
addition, US12NG earns interest on funds held at the custodian at prevailing
market rates earned on such investments.
Brokerage
Commissions
Brokerage
commissions on all open commodity futures contracts are accrued on a full-turn
basis.
Income
Taxes
US12NG is
not subject to federal income taxes; each partner reports his/her allocable
share of income, gain, loss deductions or credits on his/her own income tax
return.
Creations
and Redemptions
Authorized
Purchasers may purchase Creation Baskets or redeem Redemption Baskets only in
blocks of 100,000 units equal to the net asset value of the units calculated
shortly after the close of the core trading session on the NYSE Arca on the day
the order is placed.
US12NG
receives or pays the proceeds from units sold or redeemed within three business
days after the trade date of the purchase or redemption. The amounts
due from Authorized Purchasers are reflected in US12NG’s condensed statement of
financial condition as receivable for units sold, and amounts payable to
Authorized Purchasers upon redemption are reflected as payable for units
redeemed.
Partnership
Capital and Allocation of Partnership Income and Losses
Profit or
loss shall be allocated among the partners of US12NG in proportion to the number
of units each partner holds as of the close of each month. The General Partner
may revise, alter or otherwise modify this method of allocation as described in
the LP Agreement.
Calculation
of Net Asset Value
US12NG’s
net asset value is calculated on each NYSE Arca trading day by taking the
current market value of its total assets, subtracting any liabilities and
dividing the amount by the total number of units issued and outstanding. US12NG
uses the closing price for the contracts on the relevant exchange on that
day to determine the value of contracts held on such exchange.
Net
Income (Loss) per Unit
Net
income (loss) per unit is the difference between the net asset value per
unit at the beginning of each period and at the end of each period. The
weighted average number of units outstanding was computed for purposes of
disclosing net income (loss) per weighted average unit. The weighted average
units are equal to the number of units outstanding at the end of the period,
adjusted proportionately for units redeemed based on the amount of time the
units were outstanding during such period. There were
no
units held by the General
Partner at March 31, 2010.
8
Offering
Costs
Offering
costs incurred in connection with the registration of additional units after the
initial registration of units are borne by US12NG. These costs include
registration fees paid to regulatory agencies and all legal, accounting,
printing and other expenses associated with such offerings. These costs will be
accounted for as a deferred charge and thereafter amortized to expense over
twelve months on a straight-line basis or a shorter period if
warranted.
Cash
Equivalents
Cash
equivalents include money market funds and overnight deposits or time deposits
with original maturity dates of three months or less.
Use
of Estimates
The
preparation of condensed financial statements in conformity with accounting
principles generally accepted in the United States of America requires US12NG’s
management to make estimates and assumptions that affect the reported amount of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the condensed financial statements, and the reported amounts of the
revenue and expenses during the reporting period. Actual results could differ
from those estimates and assumptions.
General
Partner Management Fee
Under the
LP Agreement, the General Partner is responsible for investing the assets of
US12NG in accordance with the objectives and policies of US12NG. In addition,
the General Partner has arranged for one or more third parties to provide
administrative, custody, accounting, transfer agency and other necessary
services to US12NG. For these services, US12NG is contractually obligated to pay
the General Partner a fee, which is paid monthly, that is equal to 0.75% per
annum of average daily net assets. Since inception through April 30, 2010 the
General Partner has been charging US12NG a management fee at a reduced rate of
0.60% per annum of average daily net assets. Effective May 1, 2010, the General
Partner resumed charging its standard rate of 0.75% per annum of average daily
net assets. The difference of 0.15% per annum of average daily net assets since
inception through April 30, 2010 has been waived by the General Partner and will
not be recouped from US12NG.
Ongoing
Registration Fees and Other Offering Expenses
US12NG pays
all costs and expenses associated with the ongoing registration of its units
subsequent to the initial offering. These costs include registration or other
fees paid to regulatory agencies in connection with the offer and sale of units,
and all legal, accounting, printing and other expenses associated with such
offer and sale. For the three months ended March 31, 2010, US12NG incurred
$0
in registration fees and
other offering expenses.
Directors’
Fees and Expenses
US12NG is
responsible for paying its portion of the directors’ and officers’ liability
insurance of the General Partner and the fees and expenses of the independent
directors of the General Partner who are also the General Partner’s audit
committee members.
Effective as
of April 1, 2010, US12NG is also responsible for paying its portion of any
payments that may become due to
the independent directors
pursuant to the
deferred compensation
agreements entered into between the
independent directors, the General Partner and each of the
funds.
US12NG shares these fees and expenses with USOF,
USNG, US12OF, UGA, USHO and USSO based on the relative assets of each fund,
computed on a daily basis. These fees and expenses are estimated to be a total
of $538,870 for all funds.
9
Licensing
Fees
As
discussed in Note 4, US12NG entered into a licensing agreement with the
NYMEX on December 4, 2007. Pursuant to the agreement, US12NG and the
affiliated funds managed by the General Partner pay a licensing fee that is
equal to 0.04% for the first $1,000,000,000 of combined assets of the funds
and 0.02% for combined assets above $1,000,000,000. During the three months
ended March 31, 2010, US12NG incurred $
2,024
under this
arrangement.
Investor
Tax Reporting Cost
The fees
and expenses associated with US12NG’s audit expenses and tax accounting and
reporting requirements, with the exception of certain initial implementation
service fees and base service fees, which are borne by the General Partner, are
paid by US12NG.
These costs for
the calendar year 2010 are estimated to be $140,493
.
Other
Expenses and Fees and Expense Waivers
In addition to the fees described
above, US12NG pays all brokerage fees, transaction costs for
over-the-counter swaps, taxes and other expenses in connection with the
operation of US12NG, excluding costs and expenses paid by the General
Partner as outlined in Note 4.
The General Partner, though
under no obligation to do so, agreed to pay certain expenses, to the extent that
such expenses exceed 0.15% (15 basis points) of US12NG’s NAV, on an annualized
basis, through June 30, 2010. The General Partner has no obligation
to continue such payment into subsequent periods. This waiver is in
addition to the waiver of the management fee disclosed in Note 3
above.
US12NG is
party to a marketing agent agreement, dated as of October 30, 2009,
with the Marketing Agent and the General Partner, whereby the Marketing
Agent provides certain marketing services for US12NG as outlined in the
agreement. The fee of the Marketing Agent, which is borne by the General
Partner, is equal to 0.06% on US12NG’s assets up to $3 billion; and 0.04% on
US12NG’s assets in excess of $3 billion.
The above
fee does not include the following expenses, which are also borne by the General
Partner: the cost of placing advertisements in various periodicals; web
construction and development; or the printing and production of various
marketing materials.
US12NG is
also party to a custodian agreement, dated November 3, 2009, with Brown Brothers
Harriman & Co. (“BBH&Co.”) and the General Partner, whereby BBH&Co.
holds investments on behalf of US12NG. The General Partner pays the fees of
the custodian, which are determined by the parties from time to time. In
addition, US12NG is party to an administrative agency agreement, dated November
3, 2009, with the General Partner and BBH&Co., whereby BBH&Co. acts as
the administrative agent, transfer agent and registrar for US12NG. The General
Partner also pays the fees of BBH&Co. for its services under this
agreement and such fees are determined by the parties from time to
time.
Currently,
the General Partner pays BBH&Co. for its services, in the foregoing
capacities, a minimum amount of $75,000 annually for its custody, fund
accounting and fund administration services rendered to US12NG and each of the
affiliated funds managed by the General Partner, as well as a $20,000 annual fee
for its transfer agency services. In addition, the General Partner pays
BBH&Co. an asset-based charge of (a) 0.06% for the first $500 million of
US12NG’s, USOF’s, USNG’s, US12OF’s, UGA’s, USHO’s and USSO’s combined net
assets, (b) 0.0465% for US12NG’s, USOF’s, USNG’s, US12OF’s, UGA’s, USHO’s and
USSO’s combined net assets greater than $500 million but less than $1 billion,
and (c) 0.035% once US12NG’s, USOF’s, USNG’s, US12OF’s, UGA’s, USHO’s and USSO’s
combined net assets exceed $1 billion. The annual minimum amount will not apply
if the asset-based charge for all accounts in the aggregate exceeds $75,000. The
General Partner also pays transaction fees ranging from $7.00 to $15.00 per
transaction.
US12NG
has entered into a brokerage agreement with UBS Securities LLC (“UBS
Securities”). The agreement requires UBS Securities to provide services to
US12NG in connection with the purchase and sale of Futures Contracts and
Other Natural Gas-Related Investments that may be purchased and sold by or
through UBS Securities for US12NG’s account. The agreement provides that UBS
Securities charge US12NG commissions of approximately $7 per round-turn trade,
including applicable exchange and NFA fees for Futures Contracts and
options on Futures Contracts.
On
December 4, 2007, US12NG and the NYMEX entered into a licensing agreement
whereby US12NG was granted a non-exclusive license to use certain of the NYMEX’s
settlement prices and service marks. Under the licensing agreement,
US12NG and the affiliated funds managed by the General Partner pay the NYMEX an
asset-based fee for the license, the terms of which are described in Note
3.
US12NG
expressly disclaims any association with the NYMEX or endorsement of US12NG by
the NYMEX and acknowledges that “NYMEX” and “New York Mercantile Exchange” are
registered trademarks of the NYMEX.
10
US12NG
engages in the trading of futures contracts and options on futures
contracts and may engage in cleared swaps (collectively, “derivatives”). US12NG
will be exposed to both market risk, which is the risk arising from changes in
the market value of the contracts, and credit risk, which is the risk of failure
by another party to perform according to the terms of a contract.
US12NG
may enter into futures contracts, options on futures contracts and cleared swap
contracts to gain exposure to changes in the value of an underlying
commodity. A futures contract obligates the seller to deliver (and
the purchaser to accept) the future delivery of a specified quantity and type of
a commodity at a specified time and place. Some futures contracts may call for
physical delivery of the asset, while others are settled in cash. The
contractual obligations of a buyer or seller may generally be satisfied by
taking or making physical delivery of the underlying commodity or by making an
offsetting sale or purchase of an identical futures contract on the same or
linked exchange before the designated date of delivery.
The
purchase and sale of futures contracts, options on futures contracts and cleared
swaps require margin deposits with a futures commission merchant. Additional
deposits may be necessary for any loss on contract value. The Commodity Exchange
Act requires a futures commission merchant to segregate all customer
transactions and assets from the futures commission merchant’s proprietary
activities.
Futures
contracts and cleared swaps involve, to varying degrees, elements of market risk
(specifically commodity price risk) and exposure to loss in excess of the amount
of variation margin. The face or contract amounts reflect the extent of the
total exposure US12NG has in the particular classes of instruments. Additional
risks associated with the use of futures contracts are an imperfect correlation
between movements in the price of the futures contracts and the market value of
the underlying securities and the possibility of an illiquid market for a
futures contract.
All of
US12NG’s investment contracts through March 31, 2010 have been exchange-traded
futures contracts. The liquidity and credit risks associated with
exchange-traded contracts and cleared swaps are generally perceived to be less
than those associated with over-the-counter transactions, since, in
over-the-counter transactions, US12NG must rely solely on the credit of its
respective individual counterparties. As of March 31, 2010, US12NG has not
entered into any cleared swaps or over-the-counter
transactions. Over-the counter transactions subject US12NG to the
credit risk associated with counterparty non-performance. The credit risk from
counterparty non-performance associated with such instruments is the net
unrealized gain, if any, on the transaction. US12NG also has credit risk under
its futures contracts since the sole counterparty to all domestic and foreign
futures contracts is the clearinghouse for the exchange on which the relevant
contracts are traded. However, as compared to its over-the-counter
transactions, it may more easily realize value by reselling its futures
contracts. In addition, US12NG bears the risk of financial failure by
the clearing broker.
US12NG’s
cash and other property, such as U.S. Treasuries, deposited with a futures
commission merchant are considered commingled with all other customer funds
subject to the futures commission merchant’s segregation requirements. In the
event of a futures commission merchant’s insolvency, recovery may be limited to
a pro rata share of segregated funds available. It is possible that the
recovered amount could be less than the total of cash and other property
deposited. The insolvency of a futures commission merchant could result in the
complete loss of US12NG’s assets posted with that futures commission merchant;
however, the vast majority of US12NG’s assets are held in Treasuries, cash
and/or cash equivalents with US12NG’s custodian and would not be impacted by the
insolvency of a futures commission merchant. Also, the failure or insolvency of
US12NG’s custodian could result in a substantial loss of US12NG’s
assets.
US12NG invests
a portion of its cash in money market funds in an effort to maintain a stable
net asset value. US12NG is exposed to any risk of loss associated with an
investment in these money market funds. As of March 31, 2010 and December 31,
2009, US12NG had deposits in domestic and foreign financial institutions,
including cash investments in money market funds, in the amounts of $
40,160,329 and $
35,966,807,
respectively. This amount is subject to loss should these
institutions cease operations.
For
derivatives, risks arise from changes in the market value of the contracts.
Theoretically, US12NG is exposed to a market risk equal to the value
of futures contracts purchased and unlimited liability on such contracts sold
short. As both a buyer and a seller of options, US12NG pays or receives a
premium at the outset and then bears the risk of unfavorable changes in the
price of the contract underlying the option.
11
US12NG’s
policy is to continuously monitor its exposure to market and counterparty risk
through the use of a variety of financial, position and credit exposure
reporting controls and procedures. In addition, US12NG has a policy of
requiring review of the credit standing of each broker or counterparty with
which it conducts business.
The
financial instruments held by US12NG are reported in its condensed statement of
financial condition at market or fair value, or at carrying amounts that
approximate fair value, because of their highly liquid nature and short-term
maturity.
US12NG
values its investments in accordance with Accounting Standards Codification 820
– Fair Value Measurements and Disclosures (“ASC 820”). ASC 820
defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles, and expands disclosures about fair
value measurement. The changes to past practice resulting from the application
of ASC 820 relate to the definition of fair value, the methods used to measure
fair value, and the expanded disclosures about fair value measurement. ASC 820
establishes a fair value hierarchy that distinguishes between (1) market
participant assumptions developed based on market data obtained from sources
independent of US12NG (observable inputs) and (2) US12NG’s own assumptions about
market participant assumptions developed based on the best information available
under the circumstances (unobservable inputs). The three levels defined by the
ASC 820 hierarchy are as follows:
Level I –
Quoted prices (unadjusted) in active markets for
identical
assets or
liabilities that the reporting entity has the ability to access at the
measurement date.
Level II
– Inputs other than quoted prices included within Level I that are observable
for the asset or liability, either directly or indirectly. Level II assets
include the following: quoted prices for
similar
assets or
liabilities in active markets, quoted prices for identical or similar assets or
liabilities in markets that are not active, inputs other than quoted prices that
are observable for the asset or liability, and inputs that are derived
principally from or corroborated by observable market data by correlation or
other means (market-corroborated inputs).
Level III
– Unobservable pricing input at the measurement date for the asset or
liability. Unobservable inputs shall be used to measure fair value to
the extent that observable inputs are not available.
In some
instances, the inputs used to measure fair value might fall in different levels
of the fair value hierarchy. The level in the fair value hierarchy within which
the fair value measurement in its entirety falls shall be determined based on
the lowest input level that is significant to the fair value measurement in its
entirety.
The
following table summarizes the valuation of US12NG’s securities at March 31,
2010 using the fair value hierarchy:
|
At March
31, 2010
|
Total
|
Level I
|
Level II
|
Level III
|
||||||||||||
|
Short-Term
Investments
|
$ | 27,001,648 | $ | 27,001,648 | $ | - | $ | - | ||||||||
|
Exchange-Traded
Futures Contracts
|
||||||||||||||||
|
United
States Contracts
|
(7,694,610 | ) | (7,694,610 | ) | - | - | ||||||||||
During
the three months ended March 31, 2010, there were no significant transfers
between Level I and Level II.
Effective
January 1, 2009, US12NG adopted the provisions of Accounting Standards
Codification 815 – Derivatives and Hedging, which require presentation of
qualitative disclosures about objectives and strategies for using derivatives,
quantitative disclosures about fair value amounts and gains and losses on
derivatives.
Fair
Value of Derivative Instruments
|
At March 31, 2010
|
At December 31, 2009
|
|||||||||
|
Derivatives not Accounted
for as Hedging
Instruments
|
Statement of Financial
Condition Location
|
Fair Value
|
Fair Value
|
|||||||
|
Futures
-
|
||||||||||
|
Commodity
Contracts
|
Assets
|
$ | (7,694,610 | ) | $ | 1,662,670 | ||||
12
The
Effect of Derivative Instruments on the Statement of Operations
|
For the three months ended
March 31, 2010
|
|||||||
|
Derivatives not
Accounted for
as Hedging
Instruments
|
Location of
Gain or (Loss)
on Derivatives
Recognized in
Income
|
Realized Gain
or (Loss) on
Derivatives
Recognized in
Income
|
Change in
Unrealized
Gain or (Loss)
Recognized in
Income
|
||||
|
Futures
-
|
Realized
gain
|
$ | (11,250 | ) | |||
|
Commodity
Contracts
|
(loss)
on closed futures contracts
|
||||||
|
Change
in unrealized gain (loss) on open futures contracts
|
$(9,357,280)
|
||||||
The
following table presents per unit performance data and other supplemental
financial data for the three months ended March 31, 2010 for the unitholders.
This information has been derived from information presented in the condensed
financial statements.
|
For the three
months ended
|
For the three
months ended
|
|||||||
|
March 31, 2010
|
March 31, 2009
|
|||||||
|
(Unaudited)
|
(Unaudited)
|
|||||||
|
Per Unit Operating
Performance:
|
||||||||
|
Net
asset value, beginning of period
|
$ | 53.77 | $ | - | ||||
|
Total
loss
|
(13.13 | ) | - | |||||
|
Net
expenses
|
(0.10 | ) | - | |||||
|
Net
decrease in net asset value
|
(13.23 | ) | - | |||||
|
Net
asset value, end of period
|
$ | 40.54 | $ | - | ||||
|
Total
Return
|
(24.60 | )% | - | % | ||||
|
Ratios
to Average Net Assets
|
||||||||
|
Total
loss
|
(26.52 | )% | - | % | ||||
|
Management
fees*
|
0.60 | % | - | % | ||||
|
Total
expenses excluding management fees*
|
1.79 | % | - | % | ||||
|
Expense
waived*
|
(1.59 | )% | - | % | ||||
|
Net
expenses excluding management fees*
|
0.20 | % | - | % | ||||
|
Net
loss
|
(26.72 | )% | - | % | ||||
| *Annualized | ||||||||
Total
returns are calculated based on the change in value during the period. An
individual unitholder
’
s total return and
ratio may vary from the above total returns and ratios based on the timing of
contributions to and withdrawals from US12NG.
13
In January 2010, the Financial
Accounting Standards Board issued Accounting Standards Update
(“ASU”)
No. 2010-06
“Improving Disclosures about Fair Value Measurements.” ASU No. 2010-06 clarifies
existing disclosure and
requires additional disclosures
regarding fair value measurements. Effective for fiscal years
beginning
after
December 15, 2010, and for interim periods within those fiscal years, entities
will need to disclose information
about purchases, sales, issuances and
settlements of Level 3 securities on a gross basis, rather than as a net number
as
currently
required. The General Partner is currently evaluating the impact ASU No. 2010-06
will have on the financial statement
disclosures.
US12NG
has performed an evaluation of subsequent events through the date the
financial statements were available to be issued. This evaluation did not result
in any subsequent events that necessitated disclosures and/or
adjustments.
14
The
following discussion should be read in conjunction with the condensed financial
statements and the notes thereto of the United States 12 Month
Natural Gas Fund, LP (“US12NG”) included elsewhere in this quarterly report on
Form 10-Q.
Forward-Looking
Information
This
quarterly report on Form 10-Q, including this “Management’s Discussion and
Analysis of Financial Condition and Results of Operations,” contains
forward-looking statements regarding the plans and objectives of management for
future operations. This information may involve known and unknown risks,
uncertainties and other factors that may cause US12NG’s actual results,
performance or achievements to be materially different from future results,
performance or achievements expressed or implied by any forward-looking
statements. Forward-looking statements, which involve assumptions and
describe US12NG’s future plans, strategies and expectations, are generally
identifiable by use of the words “may,” “will,” “should,” “expect,”
“anticipate,” “estimate,” “believe,” “intend” or “project,” the negative of
these words, other variations on these words or comparable terminology. These
forward-looking statements are based on assumptions that may be incorrect, and
US12NG cannot assure investors that the projections included in these
forward-looking statements will come to pass. US12NG’s actual results could
differ materially from those expressed or implied by the forward-looking
statements as a result of various factors.
US12NG
has based the forward-looking statements included in this quarterly report on
Form 10-Q on information available to it on the date of this quarterly
report on Form 10-Q, and US12NG assumes no obligation to update any such
forward-looking statements. Although US12NG undertakes no obligation to revise
or update any forward-looking statements, whether as a result of new
information, future events or otherwise, investors are advised to consult any
additional disclosures that US12NG may make directly to them or through
reports that US12NG in the future files with the U.S. Securities and
Exchange Commission (the “SEC”), including annual reports on Form 10-K,
quarterly reports on Form 10-Q and current reports on Form 8-K.
Introduction
US12NG, a
Delaware limited partnership, is a commodity pool that issues units that may be
purchased and sold on the NYSE Arca, Inc. (the “NYSE Arca”). The investment
objective of US12NG is for the changes in percentage terms of its units’ net
asset value (“NAV”) to reflect the changes in percentage terms of the spot
price of natural gas delivered at the Henry Hub, Louisiana, as measured by the
changes in the average of the prices of 12 futures contracts on natural gas
traded on the New York Mercantile Exchange (the “NYMEX”), consisting of the
near month contract to expire and the contracts for the following 11 months, for
a total of 12 consecutive months’ contracts, except when the near month contract
is within two weeks of expiration, in which case it will be measured by the
futures contracts that are the next month contract to expire and the contracts
for the following 11 consecutive months, less US12NG’s expenses. When
calculating the daily movement of the average price of the 12 contracts, each
contract month is equally weighted.
US12NG
seeks to achieve its investment objective by investing in a combination of
natural gas futures contracts and other natural gas-related investments such
that changes in its NAV, measured in percentage terms, will closely track the
changes in the average of the prices of the Benchmark Futures Contracts,
also measured in percentage terms. US12NG’s General Partner believes changes in
the average of the prices of the Benchmark Futures Contracts have historically
exhibited a close correlation with the changes in the spot price of natural gas.
It is not the intent of US12NG to be operated in a fashion such that the NAV
will equal, in dollar terms, the spot price of natural gas or any particular
futures contract based on natural gas. Management believes that it is not
practical to manage the portfolio to achieve such an investment goal when
investing in listed natural gas Futures Contracts and Other Natural-Gas Related
Investments.
On any
valuation day, the Benchmark Futures Contracts are the near month futures
contract for natural gas traded on the NYMEX and the contracts for the
following 11 months for a total of 12 consecutive months’ contracts unless the
near month contract is within two weeks of expiration, in which case the
Benchmark Futures Contracts are the next month contract for natural gas traded
on the NYMEX and the contracts for the following 11 consecutive months. “Near
month contract” means the next contract traded on the NYMEX due to expire. “Next
month contract” means the first contract traded on the NYMEX due to expire after
the near month contract.
US12NG
invests in futures contracts for natural gas, crude oil, heating oil, gasoline
and other petroleum-based fuels that are traded on the NYMEX, ICE Futures or
other U.S. and foreign exchanges (
collectively, “Futures Contracts”) and
other natural gas-related investments such as cash-settled options on Futures
Contracts, forward contracts for natural gas, cleared swap contracts and
over-the-counter transactions that are based on the price of natural gas, crude
oil and other petroleum-based fuels, Futures Contracts and indices based on the
foregoing (collectively, “Other Natural Gas-Related
Investments”). For convenience and unless otherwise specified,
Futures Contracts and Other Natural Gas-Related Investments collectively are
referred to as “Natural Gas Interests” in this quarterly report on Form
10-Q.
15
The
regulation of commodity interests in the United States is a rapidly changing
area of law and is subject to ongoing modification by governmental and judicial
action. As stated under the heading, “Risk Factors” in Item 1A of
US12NG’s annual report on Form 10-K for the year ended December 31, 2009,
regulation of the commodity interests and energy markets is extensive and
constantly changing; future regulatory developments in the commodity interests
and energy markets are impossible to predict but may significantly and adversely
affect US12NG.
Currently,
a number of proposals to alter the regulation of commodity interests are being
considered by federal regulators and legislators. These proposals
include the imposition of hard fixed position limits on energy-based commodity
futures contracts, the extension of position and accountability limits to
futures contracts on non-U.S. exchanges previously exempt from such limits, and
the forced use of clearinghouse mechanisms for all over-the-counter
transactions. An additional proposal would aggregate and limit all
positions in energy futures held by a single entity, whether such positions
exist on U.S. futures exchanges, non-U.S. futures exchanges, or in
over-the-counter contracts. The U.S. Commodity Futures Trading Commission (the
“CFTC”) has also recently published a proposed rule that would impose fixed
position limits on certain energy futures contracts, including the Benchmark
Futures Contracts, without the need for any new legislation to be passed. If any
of the aforementioned proposals is implemented, US12NG’s ability to meet its
investment objective may be negatively impacted and investors could be adversely
affected.
The
general partner of US12NG, United States Commodity Funds LLC (the “General
Partner”), which is registered as a commodity pool operator (“CPO”) with the
CFTC, is authorized by the Amended and Restated Agreement of Limited Partnership
of US12NG (the “LP Agreement”) to manage US12NG. The General Partner is
authorized by US12NG in its sole judgment to employ and establish the terms of
employment for, and termination of, commodity trading advisors or futures
commission merchants.
Natural
gas futures prices exhibited a general downtrend during the three months ended
March 31, 2010. The average prices of the Benchmark Futures Contracts started
the year at $
5.87
. It hit
a peak on January 6, 2010
of $6.19 and a low price
on
March 31, 2010
when
prices reached $4.60. The period ended with the average prices of the Benchmark
Futures Contracts at $4.64, for a change of approximately -20.95% over the
period. US12NG’s NAV rose during the period from a starting level of
$
53.77
per unit to a high
on
January 6, 2010
of
$56.69
per unit.
US12NG’s NAV reached its low for the period on
March 26, 2010
at $40.19
per unit. The NAV on
March 31, 2010
was $40.54, for a
return of approximately -
24.60
% over the
period.
From
January 1 to February 18, 2010, the natural gas futures market remained in a
state of backwardation,, meaning that the price of the near month natural gas
futures contract was typically higher than the price of the next month natural
gas futures contract, or contracts further away from expiration. For the rest of
the first quarter of 2010, the natural gas futures market moved into a contango
market. A contango market is one in which the price of the near
month natural gas futures contract is less than the price of the next month
natural gas futures contract, or contracts further away from expiration. As a
result of contango or backwardation, as the case may be, the return of
approximately -20.95% on the Benchmark Futures Contracts listed above is a
hypothetical return only and could not actually be achieved by an investor
holding futures contracts. For a discussion of the impact of
backwardation and contango on total returns, see “Term Structure of Natural Gas
Futures Prices and the Impact on Total Returns.”
16
Valuation
of Futures Contracts and the Computation of the NAV
The NAV
of US12NG’s units is calculated once each NYSE Arca trading day. The
NAV for a particular trading day is released after 4:00 p.m. New York time.
Trading during the core trading session on the NYSE Arca typically closes at
4:00 p.m. New York time. US12NG’s administrator uses the NYMEX closing
price (determined at the earlier of the close of the NYMEX or 2:30 p.m. New
York time) for the contracts held on the NYMEX, but calculates or determines the
value of all other US12NG investments, including cleared swaps, or other futures
contracts, as of the earlier of the close of the NYSE Arca or 4:00 p.m. New York
time.
Results
of Operations and the Natural Gas Market
Results of
Operations.
On November 18, 2009, US12NG listed its units on
the NYSE Arca under the ticker symbol “UNL.” On that day, US12NG established its
initial offering price at $50.00 per unit and issued 30,000,000 units to the
initial authorized purchaser, Merrill Lynch Professional Clearing Corp., in
exchange for $10,001,000 in cash.
Since its
initial offering of 30,000,000 units, US12NG has not made any subsequent
offerings of its units. As of March 31, 2010, US12NG had issued
800,000
units,
800,000
of which were
outstanding. As of March 31, 2010, there were
29,200,000
units registered but
not yet issued.
More
units may have been issued by US12NG than are outstanding due to the redemption
of units. Unlike funds that are registered under the Investment Company Act of
1940, as amended, units that have been redeemed by US12NG cannot be resold by
US12NG. As a result, US12NG contemplates that additional offerings of its units
will be registered with the SEC in the future in anticipation of additional
issuances and redemptions.
For the Three Months Ended
March 31, 2010
A comparison
of US12NG
’
s
results of operations for the three months ended March 31, 2009 and 2010 has not
been provided because US12NG did not conduct operations for the three
months ended March 31, 2009.
As of
March 31, 2010, the total unrealized loss on natural gas Futures Contracts,
cleared swap contracts and over-the-counter swap contracts owned or held on
that day was $7,694,610
and US12NG established
cash deposits, including cash investments in money market funds, that were equal
to $40,160,329. US12NG held 71.31% of its cash assets in overnight
deposits and money market funds at its custodian bank, while 28.69% of the cash
balance was held as margin deposits for the Futures Contracts purchased. The
ending per unit NAV on March 31, 2010 was $40.54.
Portfolio Expenses
. US12NG’s
expenses consist of investment management fees, brokerage fees and
commissions, certain offering costs, licensing fees, the fees and expenses of
the independent directors of the General Partner and expenses relating to tax
accounting and reporting requirements. The management fee that
US12NG pays to the General Partner is calculated as a percentage of the total
net assets of US12NG. US12NG paid the General Partner a management
fee of 0.60% of its average net assets. The fee is accrued daily and
paid monthly.
During
the three months ended March 31, 2010, the daily average total net assets
of US12NG were $35,315,413. The management fee paid by US12NG
during the period amounted to $52,247. Management fees as a
percentage of total net assets averaged 0.60% over the course of this three
month period.
In addition to the management fee,
US12NG pays all brokerage fees, taxes and other expenses, including certain
tax reporting costs, licensing fees for the use of intellectual property,
ongoing registration or other fees paid to the SEC, the Financial Industry
Regulatory Authority (“FINRA”) and any other regulatory agency in
connection with offers and sales of its units subsequent to the initial
offering and all legal, accounting, printing and other expenses associated
therewith. The total of these fees, taxes and expenses for the three months
ended March 31, 2010 was $156,197. For the three months ended March
31, 2010, US12NG incurred $0
in ongoing registration fees and other
expenses relation to the registration and offering of additional
units.
During the three months
ended March 31, 2010, an expense waiver was in effect which offset certain of
the expenses incurred by US12NG. The total amount of the fee waiver totaled
$138,538
.
The
total net expenses of US12NG, including management fees, commissions, and all
other expenses, after allowance for the expense waiver, totaled $69,906
for the three
months ended March 31, 2010
.
17
US12NG
is responsible for paying
its portion of the directors’ and officers’ liability insurance of the General
Partner and the fees and expenses of the independent directors of the General
Partner who are also the General Partner’s audit committee members.
US12NG shares these fees and expenses with the United States Oil Fund, LP
(“USOF”), the United States Natural Gas Fund, LP (“USNG”), the United States 12
Month Oil Fund, LP (“US12OF”), the United States Gasoline Fund, LP (“UGA”), the
United States Heating Oil Fund, LP (“USHO”), and the United States Short Oil
Fund, LP (“USSO”), based on the relative assets of each fund computed on a daily
basis. These fees for calendar year 2010 are estimated to be a total
of $538,870 for all funds. Directors’ expenses are expected to increase in 2010
due to an increase in the amount of directors’ and officers’ liability insurance
coverage. Effective as of March 3, 2009, the General Partner obtained
directors’ and officers’ liability insurance covering all of the directors and
officers of the General Partner. Previously, the General Partner did not have
liability insurance for its directors and officers; instead, the independent
directors received a payment in lieu of directors’ and officers’ liability
insurance coverage. Effective as of April 1, 2010, US12NG is also responsible
for paying its portion of any payments that may become due to
the independent
directors
pursuant to
the
deferred
compensation
agreements entered into
between the independent directors, the General Partner and each of the
funds.
US12NG
also incurs commissions to brokers for the purchase and sale of Futures
Contracts, Other Natural Gas-Related Investments or short-term obligations of
the United States of two years or less (“Treasuries”). During the
three months ended March 31, 2010, total commissions paid to brokers amounted to
$2,020. As an annualized percentage of total net assets,
the figure for the three months ended March 31, 2010 represents
approximately 0.02% of total net assets. However, there can be no assurance that
commission costs and portfolio turnover will not cause commission expenses to
rise in future quarters.
US12NG
did not incur transaction costs related to investment in Other Natural
Gas-Related Investments, including over-the-counter swaps, during the three
months ended March 31, 2010.
The fees
and expenses associated with US12NG’s audit expenses and tax accounting and
reporting requirements, with the exception of certain initial implementation
service fees and base service fees which were borne by the General Partner, are
paid by US12NG. These costs are estimated to be $140,493 for
the calendar year 2010.
Interest Income
. US12NG seeks
to invest its assets such that it holds Futures Contracts and Other Natural
Gas-Related Investments in an amount equal to the total net assets of its
portfolio. Typically, such investments do not require US12NG to pay the full
amount of the contract value at the time of purchase, but rather require US12NG
to post an amount as a margin deposit against the eventual settlement of the
contract. As a result, US12NG retains an amount that is approximately equal to
its total net assets, which US12NG invests in Treasuries, cash and/or cash
equivalents. This includes both the amount on deposit with the futures
commission merchant as margin, as well as unrestricted cash and cash equivalents
held with US12NG’s custodian bank. The Treasuries, cash and/or cash equivalents
earn interest that accrues on a daily basis. For the three months
ended March 31, 2010, US12NG earned $1,882
in interest income on such
cash and/or cash equivalents. Based on US12NG’s average daily total
net assets, this was equivalent to an annualized yield of 0.02%. US12NG did not
purchase Treasuries during the three months ended March 31, 2010 and held only
cash and/or cash equivalents during this time period.
Tracking US12NG’s Benchmark
.
US12NG seeks to manage its portfolio such that changes in its average daily NAV,
on a percentage basis, closely track the changes in the average of the daily
prices of the Benchmark Futures Contracts, also on a percentage basis.
Specifically, US12NG seeks to manage the portfolio such that over any rolling
period of 30 valuation days, the average daily change in its NAV is within a
range of 90% to 110% (0.9 to 1.1) of the average daily change in the price of
the Benchmark Futures Contracts. As an example, if the average daily
movement of the average of the prices of the Benchmark Futures
Contracts for a particular 30-day time period was 0.5% per day, US12NG
management would attempt to manage the portfolio such that the average daily
movement of the NAV during that same time period fell between 0.45% and 0.55%
(
i.e
., between 0.9 and
1.1 of the benchmark’s results). US12NG’s portfolio management goals do not
include trying to make the nominal price of US12NG’s NAV equal to the average of
the nominal prices of the current Benchmark Futures Contracts or the spot
price for natural gas. Management believes that it is not practical to manage
the portfolio to achieve such an investment goal when investing in listed
natural gas Futures Contracts and Other Natural Gas-Related
Investments.
For the
30 valuation days ended March 31, 2010, the simple average daily change in the
Benchmark Futures Contract was
-0.822
%, while the simple
average daily change in the NAV of US12NG over the same time period was -0.824%.
The average daily difference was -0.002% (or -0.2 basis points, where 1 basis
point equals 1/100 of 1%). As a percentage of the daily movement of the
Benchmark Futures Contract, the average error in daily tracking by the NAV was
0.170%, meaning that over this time period US12NG’s tracking error was within
the plus or minus 10% range established as its benchmark tracking goal. The
first chart below shows the daily movement of US12NG’s NAV versus the daily
movement of the Benchmark Futures Contract for the 30 day period ended March 31,
2010.
18
*PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
*PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
19
Since the
offering of US12NG units to the public on November 18, 2009 to March 31,
2010, the simple average daily change in the Benchmark Futures Contracts was
-0.200
%, while the simple
average daily change in the NAV of US12NG over the same time period was -0.203%.
The average daily difference was -0.003% (or -0.3
basis points, where 1
basis point equals 1/100 of 1%). As a percentage of the daily movement of the
Benchmark Futures Contract, the average error in daily tracking by the NAV was
0.047%, meaning that over this time period US12NG’s tracking error was within
the plus or minus 10% range established as its benchmark tracking
goal.
An
alternative tracking measurement of the return performance of US12NG versus the
return of its Benchmark Futures Contracts can be calculated by comparing
the actual return of US12NG, measured by changes in its NAV, versus
the
expected
changes in its
NAV under the assumption that US12NG’s returns had been exactly the same as the
daily changes in its Benchmark Futures Contracts.
For the
three months ended March 31, 2010, the actual total return of US12NG as measured
by changes in its NAV was -24.60%.
This is based on an initial NAV of
$53.77 on December 31, 2009 and an ending NAV as of March 31, 2010 of
$40.54.
During this time period, US12NG made no distributions to its
unitholders. However, if US12NG’s daily changes in its NAV had instead exactly
tracked the changes in the daily return of the Benchmark Futures Contracts,
US12NG would have ended the first quarter of 2010 with an estimated NAV of
$40.61, for a total return over the relevant time period of -24.48%. The
difference between the actual NAV total return of US12NG of -24.60% and the
expected total return based on the Benchmark Futures Contracts of -24.48% was an
error over the time period of 0.12%, which is to say that US12NG’s NAV trailed
the benchmark result by that percentage. Management believes that a portion
of the difference between the actual return and the expected benchmark
return can be attributed to the net impact of the expenses and the interest that
US12NG collects on its cash and cash equivalent holdings. During the three
months ended March 31, 2010, US12NG received interest income of $1,882, which is
equivalent to a weighted average interest rate of 0.02% for such
period. In addition, during the three months ended March 31, 2010,
US12NG also collected $1,000 from its authorized purchasers (“Authorized
Purchasers”) creating or redeeming baskets of units. This income contributed to
US12NG’s actual return. However, if the total assets of US12NG continue to
increase, management believes that the impact on total returns of these fees
from creations and redemptions will diminish as a percentage of the total
return. During the three months ended March 31, 2010, US12NG incurred total net
expenses of $69,906. Income from interest and Authorized Purchaser collections
net of expenses was $(67,024), which is equivalent to a weighted average net
interest rate of (0.77)% for the three months ended March 31, 2010.
There are
currently three factors that have impacted or are most likely to impact
US12NG’s ability to accurately track its Benchmark Futures
Contracts.
First,
US12NG may buy or sell its holdings in the then current Benchmark Futures
Contracts at a price other than the closing settlement price of that contract on
the day during which US12NG executes the trade. In that case, US12NG may pay a
price that is higher, or lower, than that of the Benchmark Futures
Contracts, which could cause the changes in the daily NAV of US12NG to
either be too high or too low relative to the changes in the Benchmark Futures
Contracts. During the three months ended March 31, 2010, management
attempted to minimize the effect of these transactions by seeking to execute its
purchase or sale of the Benchmark Futures Contracts at, or as close as
possible to, the end of the day settlement price. However, it may not always be
possible for US12NG to obtain the closing settlement price and there is no
assurance that failure to obtain the closing settlement price in the future will
not adversely impact US12NG’s attempt to track the Benchmark Futures Contracts
over time.
Second,
US12NG earns interest on its cash, cash equivalents and Treasury holdings.
US12NG is not required to distribute any portion of its income to its
unitholders and did not make any distributions to unitholders during the three
months ended March 31, 2010. Interest payments, and any other income, were
retained within the portfolio and added to US12NG’s NAV. When this income
exceeds the level of US12NG’s expenses for its management fee, brokerage
commissions and other expenses (including ongoing registration fees, licensing
fees and the fees and expenses of the independent directors of the General
Partner), US12NG will realize a net yield that will tend to cause daily
changes in the NAV of US12NG to track slightly higher than daily changes in the
Benchmark Futures Contracts. During the three months ended March 31, 2010,
US12NG earned, on an annualized basis, approximately 0.02% on its cash holdings.
It also incurred cash expenses on an annualized basis of 0.60% for management
fees and approximately 0.02% in brokerage commission costs related to the
purchase and sale of futures contracts, and 0.78% for other expenses. The
foregoing fees and expenses resulted in a net yield on an annualized basis of
approximately (0.16)% and affected US12NG’s ability to track its benchmark. If
short-term interest rates rise above the current levels, the level of deviation
created by the yield would decrease. Conversely, if short-term interest rates
were to decline, the amount of error created by the yield would increase. When
short-term yields drop to a level lower than the combined expenses of the
management fee and the brokerage commissions, then the tracking error becomes a
negative number and would tend to cause the daily returns of the NAV to
underperform the daily returns of the Benchmark Futures
Contracts.
20
Third, US12NG may hold Other
Natural Gas-Related Investments in its portfolio that may fail to closely track
the Benchmark Futures Contracts’ total return movements. In that case, the
error in tracking the changes in the average of the Benchmark Futures Contracts
could result in daily changes in the NAV of US12NG that are either too high, or
too low, relative to the daily changes in the average of the
Benchmark Futures Contracts.
During the three months ended March 31,
2010, US12NG did not hold Other Natural Gas-Related Investments.
However,
there can be no assurance that in the future US12NG will not make use of such
Other Natural Gas-Related Investments which may have the effect of increasing
transaction related expenses and result in increased tracking
error.
Term Structure of Natural Gas
Futures Prices and the Impact on Total Returns.
Several factors
determine the total return from investing in a futures contract position. One
factor that impacts the total return that will result from investing in
near month natural gas futures contracts and “rolling” those contracts forward
each month is the price relationship between the current near month contract and
the next month contract. For example, if the price of the near month contract is
higher than the next month contract (a situation referred to as “backwardation”
in the futures market), then absent any other change there is a tendency for the
price of a next month contract to rise in value as it becomes the near month
contract and approaches expiration. Conversely, if the price of a near month
contract is lower than the next month contract (a situation referred to as
“contango” in the futures market), then absent any other change there is a
tendency for the price of a next month contract to decline in value as it
becomes the near month contract and approaches expiration.
As an
example, assume that the price of natural gas for immediate delivery (the “spot”
price), was $7 per 10,000 million British thermal units (“MMBtu”, and the value
of a position in the near month futures contract was also $7. Over time, the
price of 10,000 MMBtu of natural gas will fluctuate based on a number of
market factors, including demand for natural gas relative to its supply. The
value of the near month contract will likewise fluctuate in reaction to a
number of market factors. If investors seek to maintain their position in a near
month contract and not take delivery of the natural gas, every month they must
sell their current near month contract as it approaches expiration and invest in
the next month contract.
If the
futures market is in backwardation,
e.g.
, when the expected price
of natural gas in the future would be less, the investor would be buying a next
month contract for a lower price than the current near month contract.
Hypothetically, and assuming no other changes to either prevailing natural gas
prices or the price relationship between the spot price, the near month contract
and the next month contract (and ignoring the impact of commission costs and the
interest earned on Treasuries, cash and/or cash equivalents), the value of the
next month contract would rise as it approaches expiration and becomes the new
near month contract. In this example, the value of the $7 investment would tend
to rise faster than the spot price of natural gas, or fall slower. As a result,
it would be possible in this hypothetical example for the price of spot natural
gas to have risen to $9 after some period of time, while the value of the
investment in the futures contract would have risen to $10, assuming
backwardation is large enough or enough time has elapsed. Similarly, the spot
price of natural gas could have fallen to $5 while the value of an investment in
the futures contract could have fallen to only $6. Over time, if backwardation
remained constant, the difference would continue to increase.
If the
futures market is in contango, the investor would be buying a next month
contract for a higher price than the current near month contract.
Hypothetically, and assuming no other changes to either prevailing natural gas
prices or the price relationship between the spot price, the near month contract
and the next month contract (and ignoring the impact of commission costs and the
interest earned on cash), the value of the next month contract would fall as it
approaches expiration and becomes the new near month contract. In this example,
it would mean that the value of the $7 investment would tend to rise slower than
the spot price of natural gas, or fall faster. As a result, it would be possible
in this hypothetical example for the spot price of natural gas to have
risen to $9 after some period of time, while the value of the investment in the
futures contract will have risen to only $8, assuming contango is large enough
or enough time has elapsed. Similarly, the spot price of natural gas could have
fallen to $6 while the value of an investment in the futures contract could have
fallen to $5. Over time, if contango remained constant, the difference would
continue to increase.
The chart
below compares the price of the near month contract to the average price of
the near 12 month contracts over the last 10 years (2000-2009)
for natural gas. When the price of the near month contract is higher than the
average price of the near 12 month contracts, the market would be described as
being in backwardation. When the price of the near month contract is lower than
the average price of the near 12 month contracts, the market would be described
as being in contango. Although the prices of the near month contract and the
average price of the near 12 month contracts do tend to move up or down
together, it can be seen that at times the near month prices are clearly higher
than the average price of the near 12 month contracts (backwardation), and other
times they are below the average price of the near 12 month contracts
(contango). In addition, investors can observe that natural gas prices, both
front month and second month, often display a seasonal pattern in which the
price of natural gas tends to rise in the early winter months and decline in the
summer months. This mirrors the physical demand for natural gas, which typically
peaks in the winter.
21
*
PAST PERFORMANCE
IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
An
alternative way to view backwardation and contango data over time is to subtract
the dollar price of the near month natural gas Futures Contract from the dollar
price of the near 12 month natural gas Futures Contracts. If the resulting
number is a positive number, then the near month price is higher than the
average price of the near 12 months and the market could be described as being
in backwardation. If the resulting number is a negative number, then the near
month price is lower than the average price of the near 12 months and the market
could be described as being in contango. The chart below shows the results from
subtracting the average dollar price of the near 12 month contracts from the
near month price for the 10 year period between 2000 and 2009. Investors will
note that the natural gas market spent time in both backwardation and contango.
Investors will further note that the markets display a seasonal pattern that
corresponds to the seasonal demand patterns for natural gas above. That is, in
many, but not all, cases the average price of the near 12 month contracts is
higher than the near month during the approach to the winter months as the price
of natural gas for delivery in those winter months rises on expectations of
demand. At the same time, the price of the near month, when that month is just
before
the
onset of winter, does not rise as far or as fast as the average price of the
near 12 month contracts whose delivery falls during the winter
season.
22
*
PAST PERFORMANCE
IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
An
investment in a portfolio that involved owning only the near month contract
would likely produce a different result than an investment in a portfolio that
owned an equal number of each of the near 12 months’ worth of contracts.
Generally speaking, when the natural gas futures market is in backwardation, the
near month only portfolio would tend to have a higher total return than the 12
month portfolio. Conversely, if the natural gas futures market was in contango,
the portfolio containing 12 months’ worth of contracts would tend to outperform
the near month only portfolio. The chart below shows the results of owning a
portfolio consisting of the near month contract versus a portfolio containing
the near 12 months’ worth of contracts. In this example, each month, the near
month only portfolio would sell the near month contract at expiration and buy
the next month out contract. The portfolio holding an equal number of the near
12 months’ worth of the contracts would sell the near month contract at
expiration and replace it with the contract that becomes the new twelfth month
contract.
23
*PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
As seen
in the chart above, there have been periods of both positive and negative annual
total returns for both hypothetical portfolios over the last 10 years. In
addition, there have been periods during which the near month only approach had
higher returns, and periods where the 12 month approach had higher total
returns. The above chart does not represent the performance history of US12NG or
any affiliated funds.
Historically,
the natural gas futures markets have experienced periods of contango
and backwardation. Because natural gas demand is seasonal, it is possible for
the price of Futures Contracts for delivery within one or two months to
rapidly move from backwardation into contango and back again within a relatively
short period of time of less than one year. While the investment objective of
US12NG is not to have the market price of its units match, dollar for dollar,
changes in the spot price of natural gas, contango impacted the total return on
an investment in US12NG units during the three months ended March 31, 2010
relative to a hypothetical direct investment in natural gas. For example,
an investment in US12NG units made on December 31, 2009 and held to March 31,
2010 decreased, based upon the changes in the NAV for US12NG units on those
days, by approximately -24.60%, while the spot price of natural gas for
immediate delivery during the same period decreased by approximately -20.95%
(note: this comparison ignores the potential costs associated with physically
owning and storing natural gas, which could be substantial).
Periods
of contango or backwardation do not materially impact US12NG’s investment
objective of having the percentage changes in its per unit NAV track the
percentage changes in the average of the prices of the Benchmark Futures
Contracts since the impact of backwardation and contango tended to equally
impact the percentage changes in price of both US12NG’s units and the
Benchmark Futures Contracts. It is impossible to predict with any degree of
certainty whether backwardation or contango will occur in the future. It is
likely that both conditions will occur during different periods and, because of
the seasonal nature of natural gas demand, both may occur within a single year’s
time.
24
Natural Gas Market.
During the three months ended March 31, 2010, natural
gas prices in the United States were impacted by several
factors. During the first quarter of 2010, the amount of natural gas
in storage rose to higher than average levels versus the previous five years.
Colder temperatures during January and February 2010, followed by warmer
temperatures during March, contributed to the decline in prices. In
addition, increased natural gas production also contributed to a decline in
natural gas prices during three months ended March 31, 2010, with prices
reaching a low at the end of the quarter of $3.869 on March 31,
2010.
Natural Gas Price Movements in
Comparison to other Energy Commodities and Investment
Categories.
The General Partner believes that investors frequently
measure the degree to which prices or total returns of one investment or asset
class move up or down in value in concert with another investment or asset
class. Statistically, such a measure is usually done by measuring the
correlation of the price movements of the two different investments or asset
classes over some period of time. The correlation is scaled between 1 and -1,
where 1 indicates that the two investment options move up or down in price or
value together, known as “positive correlation,” and -1 indicating that they
move in completely opposite directions, known as “negative correlation.” A
correlation of 0 would mean that the movements of the two are neither positively
or negatively correlated, known as “non-correlation.” That is, the investment
options sometimes move up and down together and other times move in opposite
directions.
For the
ten year time period between 2000 and 2009, the chart below compares the monthly
movements of natural gas prices versus the monthly movements of the prices of
several other energy commodities, such as crude oil, heating oil, and unleaded
gasoline, as well as several major non-commodity investment asset classes such
as large cap U.S. equities, U.S. government bonds and global equities. It can be
seen that over this particular time period, the movement of natural gas on a
monthly basis was not strongly correlated, positively or negatively, with the
movements of large cap U.S. equities, U.S. government bonds or global equities.
However, movements in natural gas had a positive, but weak, correlation to
movements in heating oil. Finally, natural gas had a positive, but
very weak, correlation with crude oil and was not strongly correlated, either
positively or negatively, with unleaded gasoline.
|
10 Year Correlation Matrix
|
Large Cap
US Equities
(S&P 500)
|
US Gov't
Bonds
(EFFAS
US Gov
’
t
Bond
Index)
|
Global
Equities
(FTSE
World
Index)
|
Crude Oil
|
Heating
Oil
|
Unleaded
Gasoline
|
Natural
Gas
|
|||||||||||||||||||||
|
Large
Cap US Equities (S&P 500)
|
1.000 | -0.259 | 0.966 | 0.152 | 0.087 | 0.135 | 0.023 | |||||||||||||||||||||
|
US
Gov't Bonds (EFFAS US Gov
’
t Bond
Index)
|
1.000 | -0.237 | -0.127 | -0.078 | -0.214 | 0.128 | ||||||||||||||||||||||
|
Global
Equities (FTSE World Index)
|
1.000 | 0.246 | 0.165 | 0.196 | 0.084 | |||||||||||||||||||||||
|
Crude
Oil
|
1.000 | 0.783 | 0.724 | 0.334 | ||||||||||||||||||||||||
|
Heating
Oil
|
1.000 | 0.613 | 0.466 | |||||||||||||||||||||||||
|
Unleaded
Gasoline
|
1.000 | 0.257 | ||||||||||||||||||||||||||
|
Natural
Gas
|
1.000 | |||||||||||||||||||||||||||
|
Source:
Bloomberg, NYMEX
|
||||||||||||||||||||||||||||
PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
The chart
below covers a more recent, but much shorter, range of dates than the above
chart. It can be seen that over this particular time period, the movement of
natural gas on a monthly basis was not strongly correlated, positively or
negatively, with the movements of large-cap U.S. equities, U.S. government
bonds, global equities, or the other three energy commodities of crude oil,
gasoline or heating oil.
25
|
Correlation Matrix 12
months ended
March 31, 2010
|
Large Cap
US
Equities
(S&P 500)
|
US Gov't
Bonds
(EFFAS
US Gov
’
t
Bond
Index)
|
Global
Equities
(FTSE
World
Index)
|
Crude Oil
|
Heating Oil
|
Unleaded
Gasoline
|
Natural
Gas
|
|||||||||||||||||||||
|
Large
Cap US Equities (S&P 500)
|
1.000 | 0.086 | 0.952 | 0.243 | -0.204 | 0.317 | -0.146 | |||||||||||||||||||||
|
US
Gov't Bonds (EFFAS US Gov
’
t Bond
Index)
|
1.000 | -0.229 | -0.273 | -0.321 | -0.316 | -0.088 | ||||||||||||||||||||||
|
Global
Equities (FTSE World Index)
|
1.000 | 0.372 | 0.329 | 0.425 | 0.056 | |||||||||||||||||||||||
|
Crude
Oil
|
1.000 | 0.937 | 0.848 | 0.098 | ||||||||||||||||||||||||
|
Heating
Oil
|
1.000 | 0.856 | 0.152 | |||||||||||||||||||||||||
|
Unleaded
Gasoline
|
1.000 | -0.267 | ||||||||||||||||||||||||||
|
Natural
Gas
|
1.000 | |||||||||||||||||||||||||||
|
Source:
Bloomberg, NYMEX
|
||||||||||||||||||||||||||||
PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
Investors
are cautioned that the historical price relationships between natural gas and
various other energy commodities, as well as other investment asset classes, as
measured by correlation may not be reliable predictors of future price movements
and correlation results. The results pictured above would have been different if
a different range of dates had been selected. The General Partner believes that
natural gas has historically not demonstrated a strong correlation with equities
or bonds over long periods of time. However, the General Partner also believes
that in the future it is possible that natural gas could have long term
correlation results that indicate prices of natural gas more closely track the
movements of equities or bonds. In addition, the General Partner believes that,
when measured over time periods shorter than ten years, there will always be
some periods where the correlation of natural gas to equities and bonds will be
either more strongly positively correlated or more strongly negatively
correlated than the long term historical results suggest.
The correlations between
natural gas, crude oil, heating oil and gasoline are relevant because the
General Partner endeavors to invest US12NG’s assets in natural gas Futures
Contracts and Other Natural Gas-Related Investments so that daily changes in
percentage terms in US12NG’s NAV correlate as closely as possible with daily
changes in percentage terms in the average of the prices of the Benchmark
Futures Contracts. If certain other fuel-based commodity futures
contracts do not closely correlate with the natural gas Futures Contracts,
then their use could lead to greater tracking error. As noted above, the General
Partner also believes that the changes in percentage terms in the average of the
prices of the Benchmark Futures Contracts will closely correlate with changes in
percentage terms in the spot price of natural gas.
Critical
Accounting Policies
Preparation
of the financial statements and related disclosures in compliance with
accounting principles generally accepted in the United States of America
requires the application of appropriate accounting rules and guidance, as well
as the use of estimates. US12NG’s application of these policies involves
judgments and actual results may differ from the estimates used.
The
General Partner has evaluated the nature and types of estimates that
it makes in preparing US12NG’s condensed financial statements and related
disclosures and has determined that the valuation of its investments which
are not traded on a United States or internationally recognized futures exchange
(such as forward contracts and over-the-counter contracts) involves a critical
accounting policy. The values which are used by US12NG for its futures contracts
are provided by its commodity broker who uses market prices when available,
while over-the-counter contracts are valued based on the present value of
estimated future cash flows that would be received from or paid to a third party
in settlement of these derivative contracts prior to their delivery date and
valued on a daily basis. In addition, US12NG estimates interest income on a
daily basis using prevailing interest rates earned on its cash and cash
equivalents. These estimates are adjusted to the actual amount received on a
monthly basis and the difference, if any, is not considered
material.
26
Liquidity
and Capital Resources
US12NG
has not made, and does not anticipate making, use of borrowings or other lines
of credit to meet its obligations. US12NG has met, and it is anticipated that
US12NG will continue to meet, its liquidity needs in the normal course of
business from the proceeds of the sale of its investments, or from the
Treasuries, cash and/or cash equivalents that it intends to hold at all times.
US12NG’s liquidity needs include: redeeming units, providing margin deposits for
its existing Futures Contracts or the purchase of additional Futures Contracts
and posting collateral for its over-the-counter contracts and payment of its
expenses, summarized below under “Contractual Obligations.”
US12NG
currently generates cash primarily from (i) the sale of baskets consisting of
100,000 units (“Creation Baskets”) and (ii) interest earned on Treasuries,
cash and/or cash equivalents. US12NG has allocated substantially all of its net
assets to trading in Natural Gas Interests. US12NG invests in Natural Gas
Interests to the fullest extent possible without being leveraged or unable to
satisfy its current or potential margin or collateral obligations with respect
to its investments in Futures Contracts and Other Natural Gas-Related
Investments. A significant portion of the NAV is held in cash and cash
equivalents that are used as margin and as collateral for US12NG’s trading
in Natural Gas Interests. The balance of the net assets is held in US12NG’s
account at its custodian bank. Interest earned on US12NG’s interest-bearing
funds is paid to US12NG. US12NG’s expenses exceeded the interest
income US12NG earned and the cash earned from the sale of Creation
Baskets. During the three months ended March 31, 2010, US12NG was
forced to use other assets to pay cash expenses, which could cause a drop in
US12NG’s NAV over time. To the extent expenses have exceeded interest income,
US12NG’s NAV will be negatively impacted.
US12NG’s
investments in Natural Gas Interests may be subject to periods of illiquidity
because of market conditions, regulatory considerations and other reasons. For
example, most commodity exchanges limit the fluctuations in futures
contracts prices during a single day by regulations referred to as “daily
limits.” During a single day, no trades may be executed at prices beyond the
daily limit. Once the price of a futures contract has increased or decreased by
an amount equal to the daily limit, positions in the contracts can neither be
taken nor liquidated unless the traders are willing to effect trades at or
within the specified daily limit. Such market conditions could prevent US12NG
from promptly liquidating its positions in futures
contracts. During the three months ended March 31, 2010, US12NG was
not forced to purchase or liquidate any of its positions while daily limits were
in effect; however, US12NG cannot predict whether such an event may occur in the
future.
Prior to
the initial offering of US12NG, all payments with respect to US12NG’s expenses
were paid by the General Partner. US12NG does not have an obligation
or intention to refund such payments by the General Partner. The General
Partner, though under no obligation to do so, agreed to pay certain expenses, to
the extent that such expenses exceeded 0.15% (15 basis points) of US12NG’s NAV,
on an annualized basis. The General Partner has no obligation to continue such
payment into subsequent periods. US12NG will be responsible for
expenses incurred subsequent to the initial offering of units relating to (i)
management fees, (ii) brokerage fees and commissions, (iii) licensing fees
for the use of intellectual property, (iv) ongoing registration expenses in
connection with offers and sales of its units subsequent to the initial
offering, (v) taxes and other expenses, including certain tax reporting costs,
(vi) fees and expenses of the independent directors of the General Partner and
(vii) other extraordinary expenses not in the ordinary course of business, while
the General Partner has been responsible for expenses relating to the fees of
the US12NG’s marketing agent, the administrator and the custodian and
registration expenses relating to the initial offering of units.
If the General Partner and US12NG are unsuccessful in raising sufficient
funds to cover these respective expenses or in locating any other source of
funding, US12NG will terminate and investors may lose all or part of their
investment.
Market
Risk
Trading
in Futures Contracts and Other Natural Gas-Related Investments, such as
forwards, involves US12NG entering into contractual commitments to purchase or
sell natural gas at a specified date in the future. The aggregate market value
of the contracts will significantly exceed US12NG’s future cash requirements
since US12NG intends to close out its open positions prior to settlement. As a
result, US12NG is generally only subject to the risk of loss arising from the
change in value of the contracts. US12NG considers the “fair value” of its
derivative instruments to be the unrealized gain or loss on the contracts. The
market risk associated with US12NG’s commitments to purchase natural gas is
limited to the aggregate market value of the contracts held. However, should
US12NG enter into a contractual commitment to sell natural gas, it would be
required to make delivery of the natural gas at the contract price, repurchase
the contract at prevailing prices or settle in cash. Since there are no limits
on the future price of natural gas, the market risk to US12NG could be
unlimited.
US12NG’s
exposure to market risk depends on a number of factors, including the markets
for natural gas, the volatility of interest rates and foreign exchange rates,
the liquidity of the Futures Contracts and Other Natural Gas-Related Investments
markets and the relationships among the contracts held by US12NG. The
limited experience that US12NG has had in utilizing its model to trade in
Natural Gas Interests in a manner intended to track the changes in the spot
price of natural gas, as well as drastic market occurrences, could ultimately
lead to the loss of all or substantially all of an investor’s
capital.
27
Credit
Risk
When
US12NG enters into Futures Contracts and Other Natural Gas-Related Investments,
it is exposed to the credit risk that the counterparty will not be able to meet
its obligations. The counterparty for the Futures Contracts traded on the NYMEX
and on most other foreign futures exchanges is the clearinghouse associated with
the particular exchange. In general, in addition to margin required to be posted
by the exchange or clearinghouse in connection with trades on the exchange or
through the clearinghouse, clearinghouses are backed by their members who may be
required to share in the financial burden resulting from the nonperformance of
one of their members and, therefore, this additional member support should
significantly reduce credit risk. Some foreign exchanges are not backed by their
clearinghouse members but may be backed by a consortium of banks or other
financial institutions. There can be no assurance that any counterparty,
clearinghouse, or their members or their financial backers will satisfy their
obligations to US12NG in such circumstances
The
General Partner attempts to manage the credit risk of US12NG by following
various trading limitations and policies. In particular, US12NG generally posts
margin and/or holds liquid assets that are approximately equal to the market
value of its obligations to counterparties under the Futures Contracts and Other
Natural Gas-Related Investments it holds. The General Partner has implemented
procedures that include, but are not limited to, executing and clearing trades
only with creditworthy parties and/or requiring the posting of collateral or
margin by such parties for the benefit of US12NG to limit its credit exposure.
UBS Securities LLC, US12NG’s commodity broker, or any other broker that may be
retained by US12NG in the future, when acting as US12NG’s futures commission
merchant in accepting orders to purchase or sell Futures Contracts on United
States exchanges, is required by CFTC regulations to separately
account for and segregate as belonging to US12NG, all assets of US12NG relating
to domestic Futures Contracts trading. These futures commission merchants are
not allowed to commingle US12NG’s assets with its other assets. In addition, the
CFTC requires commodity brokers to hold in a secure account US12NG’s assets
related to foreign Futures Contracts trading.
If, in
the future, US12NG purchases over-the-counter contracts, see “Item 3.
Quantitative and Qualitative Disclosures About Market Risk” of this quarterly
report on Form 10-Q for a discussion of over-the-counter contracts.
As of
March 31, 2010 US12NG had deposits in domestic and foreign financial
institutions, including cash investments in money market funds, in the amount of
$
40,160,329
. This amount
is subject to loss should these institutions cease operations.
Off
Balance Sheet Financing
As of
March 31, 2010, US12NG has no loan guarantee, credit support or other
off-balance sheet arrangements of any kind other than agreements entered into in
the normal course of business, which may include indemnification provisions
relating to certain risks that service providers undertake in performing
services which are in the best interests of US12NG. While US12NG’s exposure
under these indemnification provisions cannot be estimated, they are not
expected to have a material impact on US12NG’s financial position.
Redemption
Basket Obligation
In order
to meet its investment objective and pay its contractual obligations described
below, US12NG requires liquidity to redeem units, which redemptions must be
in blocks of 100,000 units called “Redemption Baskets”. US12NG has to date
satisfied this obligation by paying from the cash or cash equivalents it holds
or through the sale of its Treasuries in an amount proportionate to the number
of units being redeemed.
Contractual
Obligations
US12NG’s primary contractual
obligations are with the General Partner. In return for its services, the
General Partner is entitled to a management fee calculated monthly as a fixed
percentage of US12NG’s NAV
, currently 0.75
% of US12NG’s NAV on its average daily
net assets
. Since inception through April 30, 2010 the General
Partner has been charging US12NG a management fee at a reduced rate of 0.60% per
annum of average daily net assets. Effective May 1, 2010, the General Partner
resumed charging its standard rate of 0.75% per annum of average daily net
assets. The difference of 0.15% per annum of average daily net assets since
inception through April 30, 2010 has been waived by the General Partner and will
not be recouped from US12NG.
28
The
General Partner agreed to pay the start-up costs associated with the
formation of US12NG, primarily its legal, accounting and other costs in
connection with the General Partner’s registration with the CFTC as a CPO and
the registration and listing of US12NG and its units with the SEC, FINRA
and the NYSE Arca, respectively. However, since US12NG’s initial offering of
units, offering costs incurred in connection with registering and listing
additional units of US12NG are directly borne on an ongoing basis by US12NG, and
not by the General Partner.
The
General Partner pays the fees of USNG’s marketing agent, ALPS Distributors,
Inc., and the fees of the custodian and transfer agent, Brown Brothers Harriman
& Co. (“BBH&Co.”), as well as BBH&Co.’s fees for performing
administrative services, including those in connection with the preparation of
USNG’s condensed financial statements and its SEC and CFTC reports.
The General Partner and
US12NG have also entered into a licensing agreement with the NYMEX
pursuant to which US12NG and the affiliated funds managed by the General Partner
pay a licensing fee to the NYMEX. US12NG also pays the fees and expenses
associated with its tax accounting and reporting requirements, with the
exception of certain initial implementation service fees and base service fees,
which are paid by the General Partner.
The General Partner, though under
no obligation to do so, agreed to pay certain costs for tax reporting and audit
expenses normally borne by US12NG to the extent that such expenses exceed 0.15%
(15 basis points) of US12NG’s NAV, on an annualized basis, through at least June
30, 2010.
In
addition to the General Partner’s management fee, US12NG pays its brokerage fees
(including fees to a futures commission merchant), over-the-counter dealer
spreads and up front fees, any licensing fees for the use of intellectual
property, and, subsequent to the initial offering, registration and other fees
paid to the SEC, FINRA, or other regulatory agencies in connection with the
offer and sale of units, as well as legal, printing, accounting and other
expenses associated therewith, and extraordinary expenses. The latter are
expenses not incurred in the ordinary course of US12NG’s business, including
expenses relating to the indemnification of any person against liabilities and
obligations to the extent permitted by law and under the LP Agreement, the
bringing or defending of actions in law or in equity or otherwise conducting
litigation and incurring legal expenses and the settlement of claims and
litigation. Commission payments to a futures commission merchant are on a
contract-by-contract, or round turn, basis. US12NG also pays a portion of the
fees and expenses of the independent directors of the General Partner. See
Note 3 to the Notes to Condensed Financial Statements (Unaudited).
The
parties cannot anticipate the amount of payments that will be required under
these arrangements for future periods, as US12NG’s NAVs and trading levels to
meet its investment objectives will not be known until a future date. These
agreements are effective for a specific term agreed upon by the parties with an
option to renew, or, in some cases, are in effect for the duration of US12NG’s
existence. Either party may terminate these agreements earlier for certain
reasons described in the agreements.
On March
31, 2010, US12NG’s portfolio consisted of
698
Natural Gas NG Futures
Contracts traded on NYMEX. For a list of US12NG’s current holdings,
please see US12NG’s website at
www.unitedstates12monthnaturalgasfund.com.
Over-the-Counter
Derivatives
In the
future, US12NG may purchase over-the-counter contracts. Unlike most of the
exchange-traded Futures Contracts, cleared swaps or exchange-traded options on
such futures, each party to an over-the-counter contract bears the credit risk
that the other party may not be able to perform its obligations under its
contract.
Some
natural gas-based derivatives transactions contain fairly generic terms and
conditions and are available from a wide range of participants. Other natural
gas-based derivatives have highly customized terms and conditions and are not as
widely available. Many of these over-the-counter contracts are cash-settled
forwards for the future delivery of natural gas- or petroleum-based fuels that
have terms similar to the Futures Contracts. Others take the form of
“swaps” in which the two parties exchange cash flows based on pre-determined
formulas tied to the spot price of natural gas, forward natural gas
prices or natural gas futures prices. For example, US12NG may enter into
over-the-counter derivative contracts whose value will be tied to changes in the
difference between the spot price of natural gas, the price of Futures
Contracts traded on the NYMEX and the prices of other Futures Contracts in
which US12NG may invest.
29
To
protect itself from the credit risk that arises in connection with such
contracts, US12NG may enter into agreements with each counterparty that provide
for the netting of its overall exposure to such counterparty, such as the
agreements published by the International Swaps and Derivatives Association,
Inc. US12NG also may require that the counterparty be highly rated and/or
provide collateral or other credit support to address US12NG’s exposure to the
counterparty (
i.e.
, the
amount the counterparty would have to pay to USNG if the transaction with the
counterparty were to terminate on that day). USNG must, to the extent
its counterparty has exposure to it under the transaction, also post
collateral. In addition, it is also possible for US12NG and its
counterparty to agree to clear their agreement through an established futures
clearinghouse such as those connected to the NYMEX or the ICE Futures. In that
event, US12NG would no longer bear the credit risk of its original counterparty,
as the clearinghouse would now be US12NG’s counterparty. US12NG would still
retain any price risk associated with its transaction and would be required to
deposit margin to secure the clearinghouse’s exposure to US12NG.
The
creditworthiness of each potential counterparty is assessed by the General
Partner. The General Partner assesses or reviews, as appropriate, the
creditworthiness of each potential or existing counterparty to an
over-the-counter contract pursuant to guidelines approved by the General
Partner’s board of directors (the “Board”). Furthermore, the General Partner on
behalf of US12NG only enters into over-the-counter contracts with counterparties
who are, or are affiliates of, (a) banks regulated by a United States federal
bank regulator, (b) broker-dealers regulated by the SEC, (c) insurance companies
domiciled in the United States, or (d) producers, users or traders of energy,
whether or not regulated by the CFTC. Any entity acting as a counterparty shall
be regulated in either the United States or the United Kingdom unless otherwise
approved by the Board after consultation with its legal counsel. Existing
counterparties are also reviewed periodically by the General
Partner.
US12NG
anticipates that the use of Other Natural Gas-Related Investments together with
its investments in Futures Contracts will produce price and total return results
that closely track the investment goals of US12NG. However, there can be no
assurance of this. Over-the-counter contracts may result in higher
transaction-related expenses than the brokerage commissions paid in connection
with the purchase of Futures Contracts, which may impact US12NG’s ability to
successfully track the changes in the average of the prices of the Benchmark
Futures Contracts.
US12NG
may employ spreads or straddles in its trading to mitigate the differences in
its investment portfolio and its goal of tracking the price of the
Benchmark Futures Contracts. US12NG would use a spread when it chooses to
take simultaneous long and short positions in futures written on the same
underlying asset, but with different delivery months. The effect of holding such
combined positions is to adjust the sensitivity of US12NG to changes in the
price relationship between futures contracts which will expire sooner and those
that will expire later. US12NG would use such a spread if the General Partner
felt that taking such long and short positions, when combined with the rest of
its holdings, would more closely track the investment goals of US12NG, or if the
General Partner felt it would lead to an overall lower cost of trading to
achieve a given level of economic exposure to movements in natural gas prices.
US12NG would enter into a straddle when it chooses to take an option position
consisting of a long (or short) position in both a call option and put option.
The economic effect of holding certain combinations of put options and call
options can be very similar to that of owning the underlying futures contracts.
US12NG would make use of such a straddle approach if, in the opinion of the
General Partner, the resulting combination would more closely track the
investment goals of US12NG or if it would lead to an overall lower cost of
trading to achieve a given level of economic exposure to movements in natural
gas prices.
During
the three months ended March 31, 2010, US12NG did not employ any hedging methods
such as those described above. Therefore, during the three months ended March
31, 2010, US12NG was not exposed to counterparty risk.
Disclosure
Controls and Procedures
US12NG
maintains disclosure controls and procedures that are designed to ensure that
material information required to be disclosed in US12NG’s periodic reports
filed or submitted under the Securities Exchange Act of 1934, as amended, is
recorded, processed, summarized and reported within the time period specified in
the SEC’s rules and forms.
30
The duly
appointed officers of the General Partner, including its chief executive
officer and chief financial officer, who perform functions equivalent
to those of a principal executive officer and principal financial officer of
US12NG if US12NG had any officers, have evaluated the effectiveness of US12NG’s
disclosure controls and procedures and have concluded that the disclosure
controls and procedures of US12NG have been effective as of the end of the
period covered by this quarterly report on Form 10-Q.
Change
in Internal Control Over Financial Reporting
There
were no changes in US12NG’s internal control over financial reporting during
US12NG’s last fiscal quarter that have materially affected, or are reasonably
likely to materially affect, US12NG’s internal control over financial
reporting.
31
Not
applicable.
There has
not been a material change from the risk factors previously disclosed in
US12NG's Annual Report on Form 10-K for the fiscal year ended December 31,
2009.
Not
applicable.
Not
applicable.
Monthly
Account Statements
Pursuant
to the requirement under Rule 4.22 under the Commodity Exchange Act, each month
US12NG publishes an account statement for its unitholders, which includes a
Statement of Income (Loss) and a Statement of Changes in NAV. The account
statement is furnished to the SEC on a current report on Form 8-K pursuant to
Section 13 or 15(d) of the Exchange Act and posted each month on US12NG’s
website at www.unitedstates12monthnaturalgasfund.com.
Listed
below are the exhibits which are filed as part of this quarterly report on Form
10-Q (according to the number assigned to them in Item 601 of Regulation
S-K):
|
Exhibit
|
||
|
Number
|
Description of Document
|
|
|
31.1*
|
Certification
by Principal Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
|
31.2*
|
Certification
by Principal Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
|
32.1*
|
Certification
by Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
|
|
|
32.2*
|
Certification
by Principal Financial Officer Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
|
|
|
99.1**
|
|
Form
of United States Commodity Funds LLC Director Deferred Compensation
Agreement.
|
|
*
|
Filed
herewith.
|
|
**
|
Incorporated
by reference to the Registrant’s Current Report on Form 8-K filed on April
1, 2010.
|
32
SIGNATURES
Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
|
United
States 12 Month Natural Gas Fund, LP (Registrant)
|
|||
|
By:
United States Commodity Funds LLC, its general partner
|
|||
|
By:
|
/s/
Nicholas D. Gerber
|
||
|
Nicholas
D. Gerber
|
|||
|
President
and Chief Executive Officer
|
|||
|
(Principal
executive officer)
|
|||
|
Date: May
17, 2010
|
|||
|
By:
|
/s/
Howard Mah
|
||
|
Howard
Mah
|
|||
|
Chief
Financial Officer
|
|||
|
(Principal
financial and accounting officer)
|
|||
|
Date: May
17, 2010
|
|||
33
TABLE OF CONTENTS
Part I. Financial InformationItem 1. Condensed Financial StatementsNote 1 - Organization and BusinessNote 2 - Summary Of Significant Accounting PoliciesNote 3 - Fees Paid By The Fund and Related Party TransactionsNote 4 - Contracts and AgreementsNote 5 - Financial Instruments, Off-balance Sheet Risks and ContingenciesNote 6 Fair Value Of Financial InstrumentsNote 7- Financial HighlightsNote 8 Recent Accounting PronouncementsNote 9 Subsequent EventsItem 2. Management S Discussion and Analysis Of Financial Condition and Results Of OperationsItem 3. Quantitative and Qualitative Disclosures About Market RiskItem 4. Controls and ProceduresPart II. Other InformationPart IIItem 1. Legal ProceedingsItem 1A. Risk FactorsItem 2. Unregistered Sales Of Equity Securities and Use Of ProceedsItem 3. Defaults Upon Senior SecuritiesItem 4. ReservedItem 5. Other InformationItem 6. Exhibits