Bullish Sign for Natural Gas?

In early March, we noted that Garland Shaw, a vice president at Ultra Petroleum (UPL), had been buying shares of the stock. Now, another filing with the Securities and Exchange Commission (SEC) has disclosed that Shaw purchased 3,000 shares on April 1 at an average price of $19.47 per share.

Insider purchases are often taken to be bullish signals, and it's considered a particularly good sign to see multiple insiders buying the stock within a short time period. As it happens, another Ultra Petroleum officer was buying shares in March.

Ultra Petroleum is a $3 billion market cap oil-and-gas exploration-and-production company. The business generates more than 80% of its revenue from natural gas, in which prices have fallen over the last year due to an over expansion of supply capacity and remain very low. The company's revenue declined 24% last year from its 2011 levels. With many costs actually increasing, Ultra reported only about $100 million in pretax income after adding back large impairment charges (which were down from over $700 million in the previous year). Cash flow from operations was also down significantly, though the company cut back on its investment activities and was able to  generate cash from the combination of operations and investing.

With the impairment charges, Ultra was unprofitable in 2012, and even after adding those back the $100 million in pretax income, it certainly compares unfavorably with the market capitalization of $3 billion. The stock has declined by 11% in the last year, and it has moved down 75% in the last five years; the most recent data have 16% of the outstanding shares held short.

Since Ultra Petroleum is a commodity business, its prospects are fairly dependent on the natural gas market recovering. An investor could take the multiple insider purchases as optimistic on natural gas prices in general rather than only applying that bullishness to the company. Currently, natural gas continues to battle coal -- another commodity which has plunged in price, damaging the fortunes of producers -- as a low-cost source of fuel for electric utilities. This provides one strong area of demand, with a growing move toward building sufficient infrastructure so that the gas from onshore U.S. fields can be exported.

In addition, there is speculation that natural gas could increasingly compete with oil -- which has a much more positive pricing environment, and is a more fungible commodity -- as a transportation fuel. Of course, there's also the counterbalancing potential of a restart in development of gas fields in the U.S. as well as the prospect of new fields being discovered worldwide.

Wall Street analysts are expecting $1.26 in earnings per share this year -- making for a current-year P/E multiple of 16 -- and $1.75 per share in 2014. That forward earnings multiple is about the same as what we see at Chesapeake (CHK) another natural gas-focused producer, which has been encountering profitability issues recently.

We don't like where Ultra stands currently, and think that any investors who get into the stock are more or less speculating on natural gas prices. That's not necessarily a poor investment; clearly, multiple Ultra insiders are bullish enough on the stock to increase their own holdings.

In addition, it's quite plausible that increases in demand for natural gas will outstrip supply with the result being a much more favorable market for the commodity. It is, however, a risk that investors should be aware of rather than blindly imitating an insider purchase. In addition, investors might want to consider other natural gas-related investments and also be sure that their portfolio's exposure is limited in case prices remain at low levels.