Hedge funds hope losing shorts on U.S. natural gas will pay off

This year's early rally in U.S. natural gas prices dealt heavy losses to hedge funds that stubbornly maintained short positions in the face of brutally cold weather, and the price slide of the past two months has not yet erased losses that prompted some investors to flee the funds, industry sources say.

Sasco Energy, Skylar Capital and Copperwood Energy, funds founded by some of the most prominent names in gas trading, posted losses after misreading winter weather patterns in the first quarter that caused a spike in prices of gas used for heating, said the sources speaking on condition of anonymity.

Even funds that read the market correctly at first, such as Velite Capital, which had bet on a price surge until April, fumbled last month when gas futures suddenly turned south.

"It's been a pretty shocking market, with a violent move up in the first quarter and tug-of-war now between those who are more constructive of demand versus those who are more bearish," said Anthony Yuen, gas analyst at Citigroup in New York.

Some of those caught on the wrong side are nursing double-digit losses. Industry sources said investors had also exited a few gas funds after apparently abandoning hope of a turnaround.

Westport, Connecticut-based Sasco, co-founded by former Sempra Commodities' star gas trader Todd Esse, was down 23 percent through May, data released to its investors showed.

Houston, Texas-based Skylar, run by Bill Perkins, a former associate of retired billionaire gas trader John Arnold, is off 20 percent year-to-date, those familiar with its returns said.

Copperwood, another Houston fund founded by former Enron president and Arnold associate Greg Whalley, is off more than 15 percent through May, industry sources said. The fund did not return calls seeking comment.

By comparison, the average macro commodity fund tracked by Chicago's Hedge Fund Research was up 0.3 percent through May.

Many fund managers began the year with a bearish bias toward gas, expecting record high inventories and output to pressure prices. But colder-than-expected weather caused heating demand to surge in the first quarter, and gas inventories fell below the five-year average the first time in 18 months.

Tighter supply drove prices up about 20 percent for the quarter, making gas the biggest gainer of the 19 commodities on the Thomson Reuters-Jefferies CRB index .

Sasco's data showed that the fund's value fell more than 13 percent in March, a record for the fund. It lost another 8 percent in April as a cooler-than-anticipated spring extended the demand for heating, taking gas prices to 21-month highs.

Sasco's assets are down to around $300 million from $625 million earlier in the year, a source familiar with the fund said, suggesting the firm was hit by investor redemptions on top of trading losses. Sasco, which opened in 2008 with $11 million, declined to comment.

Skylar posted a 35 percent loss in March, the firm's data showed, and an industry source said it fell a further 10 percent in April. Perkins set up Skylar last year after working for a decade at Arnold's now-defunct Centaurus Energy. Skylar had $102 million in assets as of October, according to a regulatory filing.

Copperwood, down more than 10 percent through April, fell another 5 percent last month, an industry source said. The company had over $740 million in assets as of November, a regulatory filing showed.

In Velite's case, the $2 billion Houston-based fund run by David Coolidge was up 10 percent through April as its bullish positions on gas paid off in the rallying market.

But last month's tumble in gas futures, due to milder temperatures, caused Velite a near 8 percent loss. That left it with a gain of just 2.4 percent through May.

Velite was the best performer among gas funds the last two years, gaining 25 percent last year and 51 percent in 2011. A representative for the fund declined comment.

The price drop since May has helped the funds with bearish positions to cut losses.

Skylar had one of the better rebounds, gaining 20 percent last month to bring year-to-date losses to just over 20 percent. Thus far into June, the fund was having a "good month", according to a source familiar with its returns. Skylar spokesman Mitch Ackles declined comment.

Sasco also recovered somewhat in May, losing just 1.5 percent after the bruising in March and April. Until its first annual loss last year, Sasco had four straight years of gains. At its peak, it posted a 25 percent gain in 2011.

In a note to investors in May, Sasco's new Chief Investment Officer Joe Howley said he believed gas prices will fall below $3.70 per million British thermal units in the next few months.

The front-month contract for U.S. gas closed just below $3.65 on Tuesday. It fell 8 percent in May and 7 percent month-to-date as gas production remained at record highs.

"It could be another a torrid time for the bears in this market if the summer leads to a fresh spike in gas used for air conditioning," said John Kilduff, partner at Again Capital, a New York-based energy hedge fund that focuses beyond gas. "Otherwise, prices could be testing a run below $3."

(Editing by Jonathan Leff, Josephine Mason and David Gregorio)