UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-K
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x
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Annual
report pursuant to
Section 13 or 15(d) of the Securities Exchange Act of 1934 for the
fiscal year ended December 31, 2007.
|
|
¨
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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: 001-33096
United
States Natural Gas Fund,
LP
(Exact
name of registrant as
specified in its charter)
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Delaware
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20-5576760
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|
(State
or other jurisdiction of
incorporation
or
organization)
|
|
(I.R.S.
Employer
Identification
No.)
|
1320
Harbor Bay Parkway, Suite
145
Alameda,
California
94502
(Address
of principal executive
offices) (Zip Code)
(510)
522-3336
(Registrant’s
telephone number,
including area code)
Securities
registered pursuant to
Section 12(b) of the Act:
Units American
Stock
Exchange
(Title of class) (Name of exchange on which registered)
Securities
registered pursuant to
Section 12(g) of the Act: None
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined
in
Rule 405 of the Securities Act.
¨
Yes x
No
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.
¨
Yes x
No
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 if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K (§229.405) is not contained herein, and will not be contained, to
the best of registrant’s knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. x
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 definitions of "large accelerated filer," "accelerated filer" and
"smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one.)
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 Act.).
¨
Yes x
No
The
aggregate market value of the registrant’s units held by non-affiliates of the
registrant as of June
30,
2007 was: $61,950,000.
The
registrant had 11,500,000 outstanding units as of March 13,
2008.
DOCUMENTS
INCORPORATED BY
REFERENCE:
None.
|
Business.
|
What
is USNG?
United
States Natural Gas Fund, LP ("USNG") is a Delaware limited partnership
organized on September 11, 2006. USNG maintains its main business office
at 1320
Harbor Bay Parkway, Suite 145, Alameda, California 94502. USNG is a commodity
pool that issues limited partnership interests ("units") traded on the American
Stock Exchange (the "AMEX"). It operates pursuant to the terms of
the Second Amended and Restated Agreement of Limited Partnership dated
as of December 4, 2007 (the "LP Agreement"), which grants full management
control to the General Partner.
Who
is the General
Partner?
USNG's
sole general partner is Victoria Bay Asset Management, LLC (the "General
Partner"), a single member limited liability company that was formed in the
state of Delaware on May 10, 2005. It maintains its main business office
at 1320
Harbor Bay Parkway, Suite 145, Alameda, California 94502. The General Partner
is
a wholly-owned subsidiary of Wainwright Holdings, Inc., a Delaware corporation
(“Wainwright”). Mr. Nicholas Gerber (discussed below) controls Wainwright
by virtue of his ownership of Wainwright’s shares. Wainwright is a holding
company that also owns an insurance company organized under Bermuda law and
a
registered investment adviser firm named Ameristock Corporation. The General
Partner is a member of the National Futures Association (the "NFA") and was
registered with the Commodity Futures Trading Commission (the "CFTC") as
of
December 1, 2005. The General Partner’s registration as a Commodity Pool
Operator ("CPO") was approved on December 1, 2005.
On
May
12, 2005, the General Partner formed the United States Oil Fund, LP (“USOF”),
another limited partnership that is a commodity pool and issues units
traded on the AMEX. The investment objective of USOF is for the
changes in percentage terms of its units’ net asset value (“NAV”) to reflect the
changes in percentage terms of the price of light, sweet crude oil delivered
to
Cushing, Oklahoma, as measured by the changes in the price of the futures
contract for light, sweet crude oil traded on the New York Mercantile
Exchange (the "NYMEX"), less USOF's expenses. USOF began trading on
April 10, 2006. The General Partner is the general partner of USOF
and is responsible for the management of the USOF. Wainwright was the
initial limited partner of USOF. Investors in USNG who wish to receive
additional information concerning the United States Oil Fund, LP, may
do so by
calling 1-800-920-0259, or going on-line to
www.unitedstatesoilfund.com.
On
June
27, 2007, the General Partner formed the United States 12 Month Oil Fund,
LP
(“US12OF”), also a limited partnership that is a commodity pool and issues units
traded on the AMEX. The investment objective of US12OF is for the
changes in percentage terms of its units’ NAV to reflect the changes in
percentage terms of the price of light, sweet crude oil delivered to
Cushing,
Oklahoma, as measured by the changes in the average of the prices of
12 futures
contracts on crude oil traded on the NYMEX, less US12OF's
expenses. US12OF began trading on December 6, 2007. The General
Partner is the general partner of US12OF and is responsible for the management
of US12OF. Wainwright was the initial limited partner of
US12OF. Investors in USNG who wish to receive additional information
concerning the United States 12 Month Oil Fund, LP, may do so by calling
1-800-920-0259, or going on-line to
www.unitedstates12monthoilfund.com.
On
April
12, 2007, the General Partner formed the United States Gasoline Fund,
LP
(“USG”), also a limited partnership that is a commodity pool and issues units
traded on the AMEX. The investment objective of USG is for
the changes in the percentage terms of its units’ NAV to reflect the changes in
percentage terms of the price of unleaded gasoline delivered to the
New York
harbor, as measured by the changes in the price of the futures contract
on
gasoline traded on the NYMEX, less USG's expenses. USG began trading
on February 26, 2008. The General Partner is the general partner of
USG and is responsible for the management of USG. Wainwright was the
initial limited partner of USG. Investors in USNG who wish to receive
additional
information concerning the United States Gasoline Fund, LP, may do
so by calling
1-800-920-0259, or going on-line to
www.unitedstatesgasolinefund.com.
The
General Partner is currently in the process of registering two other
exchange
traded securities, the United States Heating Oil Fund, LP (“USHO") and
the United States 12 Month Natural Gas Fund, LP (“US12NG”). USHO
will be a publicly traded limited partnership which seeks to have the
changes in
percentage terms of its units’ NAV track the changes in percentage terms of the
price of heating oil (also known as No. 2 fuel) delivered to the New
York
harbor. US12NG will be a publicly traded limited partnership which will
seek to have the changes in percentage terms of its units’ NAV reflect the
changes in percentage terms of the 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 NYMEX, consisting of the
near
month contract to expire and the contracts for the following eleven months,
for
a total of 12 consecutive months’ contracts.
1
The
General Partner is required to evaluate the credit risk for USNG to the
futures
commission merchant, oversee the purchase and sale of USNG’s units by certain
authorized purchasers ("Authorized Purchasers"), review daily positions
and
margin requirements of USNG and manage USNG’s investments. The General Partner
also pays the fees of ALPS Distributors, Inc. (the "Marketing Agent"),
and Brown
Brothers Harriman & Co. ("BBH&Co."), which acts as the administrator
(the "Administrator") and the custodian (the "Custodian") for
USNG.
Limited
partners have no right to elect the General Partner on an annual or
any other
continuing basis. If the General Partner voluntarily withdraws, however,
the
holders of a majority of USNG's outstanding units (excluding for purposes
of
such determination units owned, if any, by the withdrawing General Partner
and its affiliates) may elect its successor. The General Partner may
not be
removed as general partner except upon approval by the affirmative
vote of the
holders of at least 66 and 2/3 percent of USNG's outstanding units
(excluding
units owned, if any, by the General Partner and its affiliates), subject to
the satisfaction of certain conditions set forth in the LP
Agreement.
The
business and affairs of the General Partner are managed by a board
of directors,
which is comprised of four management directors, some of whom are also
its
executive officers (the “Management Directors”) and three independent directors
who meet the independent director requirements established by the AMEX
and the
Sarbanes-Oxley Act of 2002. Notwithstanding the foregoing, the Management
Directors have the authority to manage the General Partner pursuant
to its Third
Amended and Restated Limited Liability Company Agreement. The board
of directors
of the General Partner has an audit committee which is made up of the
three
independent directors (Peter M. Robinson, Gordon L. Ellis and Malcolm
R. Fobes
III). The audit committee is governed by an audit committee charter
that is
posted on USNG’s website, www.unitedstatesnaturalgasfund.com. Mr. Fobes and
Mr. Ellis meet the financial sophistication requirements of the AMEX and
the audit committee charter. Through its Management Directors, the
General
Partner manages the day-to-day operations of USNG.
How
Does USNG
Operate?
The
net
assets of USNG consist primarily of 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”). USNG may also invest in other natural
gas-related investments such as cash-settled options on Futures Contracts,
forward contracts for natural gas and over-the-counter transactions that
are
based on the price of natural gas, 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 annual report on
Form 10-K.
USNG
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. In pursuing this objective, the primary
focus
of the General Partner is the investment in Futures Contracts and the
management of its investments in short-term obligations of the United States
of
two years or less (“Treasuries”), cash and/or cash equivalents for
margining purposes and as collateral.
The
investment objective of USNG is to have the changes in percentage terms
of the
units’ NAV 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 price of the futures contract on natural gas traded on the NYMEX
that is the near month contract to expire, except when the near month contract
is within two weeks of expiration, in which case the futures contract will
be
the next month to expire, less USNG's expenses.
2
It
is not
the intent of USNG to be operated in a fashion such that its NAV will equal,
in
dollar terms, the spot price of natural gas or any particular futures contract
based on natural gas. USNG seeks to achieve its investment objective by
investing in a mix of Futures Contracts and Other Natural Gas Related
Investments such that changes in USNG’s NAV will closely track the changes in
the price of a specified Futures Contract (“Benchmark Futures
Contract”). The General Partner believes changes in the price of the
Benchmark Futures Contract have historically exhibited a close correlation
with the changes in the spot price of natural gas. On any valuation day (a
valuation day is any day as of which USNG calculates its NAV), the Benchmark
Futures Contract is the near month contract for natural gas traded on the
NYMEX
unless the near month contract will expire within two weeks of the valuation
day, in which case the Benchmark Futures Contract is the next month contract
for
natural gas on the NYMEX.
As
a
specific benchmark, the General Partner endeavors to place USNG’s trades in
Futures Contracts and Other Natural Gas-Related Investments and otherwise
manage
USNG’s investments so that “A” will be within plus/minus 10 percent of “B”,
where:
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·
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A
is the average daily change in USNG’s NAV for any period of 30 successive
valuation days, i.e., any day as of which USNG calculates its
NAV,
and
|
|
·
|
B
is the average daily change in the price of the Benchmark Futures
Contract
over the same period.
|
An
investment in the units allows both retail and institutional investors to easily
gain exposure to the natural gas market in a cost-effective manner. The units
also provide additional means for diversifying an investor’s investments or
hedging exposure to changes in natural gas prices.
The
Benchmark Futures Contract will be changed or “rolled” from the near month
contract to expire to the next month to expire during one day.
The
General Partner believes that market arbitrage opportunities will cause
changes
in USNG’s unit price on the AMEX to closely track changes in USNG’s NAV. The
General Partner believes that changes in USNG’s NAV in percentage terms will
closely track the changes in percentage terms in the Benchmark Futures
Contract,
less USNG’s expenses.
These
relationships are illustrated in the following diagram:
3
The
Price of USNG’s Units Is Expected
to Correlate Closely
With
USNG’S NAV
USNG’s
units are traded on the AMEX. The price of
units
fluctuates in response to USNG’s NAV and the supply and demand
pressures
of the AMEX. Because of certain arbitrage opportunities, the
General
Partner believes the price of USNG’s units traded on the
AMEX
will
correlate closely with USNG’s NAV.
Changes
in USNG’s NAV Are Expected to
Correlate Closely With
Changes
in the Price of the
Benchmark
Futures
Contract
The
General Partner endeavors to invest USNG’s assets as fully as
possible
in natural gas Futures Contracts and Other Natural Gas Related
Investments so that
changes
in the NAV closely correlate with the changes in the price of the
Benchmark
Futures Contract.
4
The
General Partner employs a “neutral” investment strategy intended to track
changes in the price of the Benchmark Futures Contract regardless of
whether the price goes up or goes down. USNG’s “neutral” investment strategy is
designed to permit investors generally to purchase and sell USNG’s units for the
purpose of investing indirectly in natural gas in a cost-effective manner,
and/or to permit participants in the natural gas or other industries
to hedge
the risk of losses in their natural gas-related transactions. Accordingly,
depending on the investment objective of an individual investor, the
risks
generally associated with investing in natural gas and/or the risks involved
in
hedging may exist. In addition, an investment in USNG involves the risk
that the
changes in the price of USNG’s units will not accurately track the changes in
the Benchmark Futures Contract.
USNG’s
total portfolio composition is disclosed each business day that the AMEX
is open
for trading on USNG’s website and through the AMEX’s website at
http://www.amex.com. The website disclosure of portfolio holdings is made
daily
and includes, as applicable, the name and value of each Natural Gas Interest,
the specific types of Other Natural Gas Related Investments and characteristics
of such Other Natural Gas Related Investments, Treasuries, and the amount
of
cash and/or cash equivalents held in USNG’s portfolio. USNG’s website is
publicly accessible at no charge. USNG’s assets are held in segregation pursuant
to Commodity Exchange Act (the "CEA") and CFTC regulations.
The
units issued by USNG may be purchased
only by Authorized Purchasers only in blocks of 100,000 units called
Creation Baskets. The amount of the purchase payment for a Creation Basket
is
equal to the aggregate NAV of units in the Creation Basket. Similarly,
Authorized Purchasers may redeem units only in blocks of 100,000 units
called
Redemption Baskets. The amount of the redemption proceeds for a Redemption
Basket is equal to the aggregate NAV of the units in the Redemption Basket.
The
purchase price for Creation Baskets and the redemption price for Redemption
Baskets is the actual NAV calculated at the end of the business day when
notice
for a purchase or redemption is received by USNG. The AMEX publishes
an
approximate intra-day NAV based on the prior day’s NAV and the current
price of the Benchmark Futures Contract, but the basket price is determined
based on the actual NAV at the end of the day.
While
USNG issues units only in Creation Baskets, units may also
be purchased and sold in much smaller increments on the AMEX. These
transactions, however, are effected at the bid and ask prices established
by specialist firm(s). Like any listed security, units of USNG can be purchased
and sold at any time a secondary market is open.
5
What
is USNG’s Investment
Strategy?
In
managing USNG’s assets, the General Partner does not use a technical trading
system that issues buy and sell orders. The General Partner instead employs
a
quantitative methodology whereby each time a Creation Basket is sold, the
General Partner purchases Natural Gas Interests, such as the Benchmark
Futures Contract, that have an aggregate face amount that approximates
the
amount of Treasuries and/or cash received upon the issuance of the Creation
Basket.
As
an
example, assume that a Creation Basket is sold by USNG, and that USNG’s closing
NAV per unit is $50.00. In that case, USNG would receive $5,000,000
in proceeds from the sale of the Creation Basket ($50 NAV per unit multiplied
by
100,000 units, and ignoring the Creation Basket fee of
$1,000).
If
one
were to assume further that the General Partner wants to invest the entire
proceeds from the Creation Basket in the Benchmark Futures Contract and
that the
face amount of the Benchmark Futures Contract is $59,950, USNG would
be unable
to buy the exact number of Benchmark Futures Contracts whose face amount
equaled
$5,000,000. Instead, USNG would be able to purchase 83 Benchmark
Futures Contracts with an aggregate face amount of $4,975,850. Assuming
a margin
requirement equal to 10% of the value of the Benchmark Futures Contract,
USNG
would be required to deposit $497,585 in Treasuries and cash with the
futures
commission merchant through which the Benchmark Futures Contracts were
purchased. The remainder of the proceeds from the sale of the Creation
Basket
would remain invested in cash, cash equivalents and/or Treasuries as
determined
by the General Partner from time to time based on factors such as potential
calls for margin or anticipated redemptions.
6
The
specific Futures Contracts purchased depend on various factors, including a
judgment by the General Partner as to the appropriate diversification of
USNG’s
investments in futures contracts with respect to the month of expiration,
and
the prevailing price volatility of particular contracts. While the General
Partner has made significant investments in NYMEX futures contracts, as
USNG reaches certain position limits on the NYMEX, or for
other reasons, it has also and may continue to invest in Futures Contracts
traded on other exchanges or invest in Other Natural Gas Related Investments
such as contracts in the “over-the-counter” market.
The
General Partner does not anticipate letting its Futures Contracts expire
and taking delivery of the underlying natural gas. Instead, the General
Partner
will close existing positions when it is determined appropriate to do so
and
reinvest the proceeds in new Futures Contracts. Positions may also be
closed out to meet orders for Redemption Baskets.
By
remaining invested as fully as possible in Futures Contracts or Other Natural
Gas Related Investments, the General Partner believes that the changes
in
percentage terms of USNG’s NAV will continue to closely track the changes
in percentage terms in the prices of the futures contracts in which USNG
invests. The General Partner believes that certain arbitrage opportunities
result in the price of the units traded on the AMEX closely tracking the
NAV of
USNG.
What
are Futures
Contracts?
Futures
Contracts are agreements between two parties. One party agrees to buy natural
gas from the other party at a later date at a price and quantity agreed
upon
when the contract is made. Futures Contracts are traded on futures
exchanges, including the NYMEX. For
example, natural gas Futures Contracts traded on the NYMEX trade in units
of
10,000 million British Thermal Units (“mmBtu”). The price of
natural gas Futures Contracts traded on the NYMEX are priced by floor brokers
and other exchange members both through an “open outcry” of offers to purchase
or sell the contracts and through an electronic, screen-based system that
determines the price by matching electronically offers to purchase and
sell.
Certain
typical and significant characteristics of Futures Contracts are discussed
below. Additional risks of investing in Futures Contracts are included in
“What are the Risk Factors Involved with an Investment in USNG?”
Impact
of Accountability Levels,
Position Limits and Price Fluctuation Limits. Futures
Contracts include typical and significant characteristics. Most significantly,
the CFTC and U.S. designated contract markets such as the NYMEX have
established
accountability levels and position limits on the maximum net long or
net
short Futures Contracts in commodity interests that any person or group of
persons under common trading control (other than as a hedge, which an
investment
in USNG is not) may hold, own or control. The net position is the difference
between an individual or firm’s open long contracts and open short contracts in
any one commodity. In addition, most U.S. futures exchanges, such as
the NYMEX,
limit the daily price fluctuation for Futures Contracts.
7
The
accountability levels for the Benchmark Futures Contract and
other Futures Contracts traded on the NYMEX are not a fixed ceiling, but
rather a threshold above which the NYMEX may exercise greater scrutiny
and
control over an investor’s positions. The current accountability level for
investments at any one time in natural gas Futures Contracts (including
investments in the Benchmark Futures Contract) is 12,000 contracts. If USNG
exceeds this accountability level for investments in natural gas Futures
Contracts, the NYMEX will monitor USNG’s exposure and ask for further
information on USNG’s activities, including the total size of all positions,
investment and trading strategy, and the extent of USNG’s liquidity resources.
If deemed necessary by the NYMEX, it could also order USNG to reduce
its
position back to the accountability level. As of December 31, 2007,
USNG held
7,924 natural gas Futures Contracts traded on the NYMEX.
If
the
NYMEX orders USNG to reduce its position back to the accountability level,
or to
an accountability level that the NYMEX deems appropriate for USNG, such
an
accountability level may impact the mix of investments in Natural Gas
Interests
made by USNG. To illustrate, assume that the price of the Benchmark Futures
Contract and the unit price of USNG are each $10, and that the NYMEX
has
determined that USNG may not own more than 12,000 contracts in natural
gas
Futures Contracts. In such case, USNG could invest up to $1.2 billion
of its
daily net assets in the Benchmark Futures Contracts (i.e., $10 per contract
multiplied by 10,000 (a Benchmark Futures Contract is a contract for 10,000
million British Thermal units) multiplied by 12,000 contracts) before
reaching
the accountability level imposed by the NYMEX. Once the daily net assets
of the
portfolio exceed $1.2 billion in the Benchmark Futures Contract, the
portfolio may not be able to make any further investments
in
the Benchmark Futures Contract, depending on whether the NYMEX imposes
limits. If the NYMEX does impose limits at the $1.2 billion level (or
another
level), USNG anticipates that it will invest the majority of its assets
above
that level in a mix of other Futures Contracts or Other Natural Gas Related
Investments.
In
addition to accountability levels, the NYMEX imposes position limits
on
contracts held in the last few days of trading in the near month contract
to
expire. It is unlikely that USNG will run up against such position limits
because USNG’s investment strategy is to change or "roll" from the near month
contract beginning two weeks prior to expiration of the
contract.
U.S.
futures exchanges, including the NYMEX, also limit the amount of price
fluctuation for Futures Contracts. For example, the NYMEX imposes a $3.00
per mmBtu ($30,000 per contract) price fluctuation limit for natural
gas Futures
Contracts. This limit is initially based off of the previous trading
day’s
settlement price. If any Benchmark Futures Contract is traded, bid, or
offered at the limit for five minutes, trading is halted for five minutes.
When
trading resumes, it begins at the point where the limit was imposed and
the
limit is reset to be $3.00 per mmBtu in either direction of that point.
If
another halt were triggered, the market would continue to be expanded
by $3.00
per mmBtu in either direction after each successive five-minute trading
halt.
There is no maximum price fluctuation limit during any one trading
session.
8
Examples
of the position and price limits imposed are as follows:
|
Futures
Contract
|
Position
Accountability
Levels
and Limits
|
Maximum
Daily
Price
Fluctuation
|
||
|
NYMEX
Natural Gas
|
Any
one month/all months: 12,000 net futures, but not to
exceed 1,000
contracts in the last three days of trading in the spot
month.
|
$3.00
per mmBtu ($30,000 per contract) for all months. If any
contract is
traded, bid, or offered at the limit for five minutes,
trading is halted
for five minutes. When trading resumes, the limit is
expanded by $3.00 per
mmBtu in either direction. If another halt were triggered,
the market
would continue to be expanded by $3.00 per mmBtu in either
direction after
each successive five-minute trading halt. There will
be no maximum price
fluctuation limits during any one trading
session.
|
||
|
NYMEX Light,
Sweet Crude Oil
|
Any
one month/all months: 20,000 net futures, but not to
exceed 3,000
contracts in the last three days of trading in the spot
month.
|
$10.00
per barrel ($10,000 per contract) for all months. If
any contract is
traded, bid, or offered at the limit for five minutes,
trading is halted
for five minutes. When trading resumes, the limit is
expanded by $10.00
per barrel in either direction. If another halt were
triggered, the market
would continue to be expanded by $10.00 per barrel in
either direction
after each successive five-minute trading halt. There
will be no maximum
price fluctuation limits during any one trading
session.
|
||
|
NYMEX
Heating Oil
|
Any
one month/all months 7,000 net futures but not to exceed
1,000 contracts
in the last three days of trading in the spot month
|
$0.25
per gallon ($10,500 per contract) for all months. If
any contract is
traded, bid, or offered at the limit for five minutes,
trading is halted
for five minutes. When trading resumes, the limit is
expanded by $0.25 per
gallon in either direction. If another halt were triggered,
the market
would continue to be expanded by $0.25 per gallon in
either direction
after each successive five-minute trading halt. There
will be no maximum
price fluctuation limits during any one trading
session.
|
||
|
NYMEX
Gasoline
|
Any
one month/all months: 7,000 net futures, but not to exceed 1,000
contracts in the last three days of trading in the spot
month
|
$0.25
per gallon ($10,500 per contract) for all months. If
any contract is
traded, bid, or offered at the limit for five minutes,
trading is halted
for five minutes. When trading resumes, the limit is
expanded by $0.25 per
gallon in either direction. If another halt were triggered,
the market
would continue to be expanded by $0.25 per gallon in
either direction
after each successive five-minute trading halt. There
will be no maximum
price fluctuation limits during any one trading
session.
|
||
|
ICE
UK Natural Gas Futures
|
There
are no position limits.
|
There
is no maximum daily price fluctuation limit.
|
||
|
ICE
Brent Crude Futures
|
There
are no position limits.
|
There
is no maximum daily price fluctuation limit.
|
||
|
ICE
WTI Crude Futures
|
There
are no position limits.
|
There
is no maximum daily price
fluctuation.
|
9
Price
Volatility. Despite
daily price limits, the price volatility of Futures Contracts generally has
been historically greater than that for traditional securities such as
stocks
and bonds. Price volatility often is greater day-to-day as opposed to
intra-day. Futures Contracts tend to be more volatile than stocks and bonds
because price movements of natural gas are more currently and directly
influenced by economic factors for which current data is available and
are
traded by natural gas futures traders throughout the day. These economic
factors
include: changes in interest rates; governmental, agricultural, trade,
fiscal,
monetary and exchange control programs and policies; weather and climate
conditions; changing supply and demand relationships; changes in balances
of
payments and trade; U.S. and international rates of inflation; currency
devaluations and revaluations; U.S. and international political and economic
events; and changes in philosophies and emotions of market participants.
Because
USNG invests a significant portion of its assets in Futures Contracts, the
assets of USNG, and therefore the prices of USNG units, may be subject
to
greater volatility than traditional securities.
Marking-to-Market
Futures
Positions. Futures Contracts are marked to market at the end of each
trading day and the margin required with respect to such contracts is adjusted
accordingly. This process of marking-to-market is designed to prevent losses
from accumulating in any futures account. Therefore, if USNG’s futures positions
have declined in value, USNG may be required to post variation margin to
cover this decline. Alternatively, if USNG futures positions have increased
in
value, this increase will be credited to USNG’s account.
What
is the Natural Gas Market and
the Petroleum-Based Fuel Market?
Natural
Gas. Natural gas accounts for almost a quarter of U.S. energy
consumption. The price of natural gas is established by the supply and
demand
conditions in the North American market, and more particularly, in the
main
refining center of the U.S. Gulf Coast. The natural gas market essentially
constitutes an auction, where the highest bidder wins the supply. When
markets
are “strong” (i.e., when demand is high and/or supply is low), the bidder must
be willing to pay a higher premium to capture the supply. When markets
are
“weak” (i.e., when demand is low and/or supply is high), a bidder may choose not
to outbid competitors, waiting instead for later, possibly lower priced,
supplies. Demand for natural gas by consumers, as well as agricultural,
manufacturing and transportation industries, determines overall demand
for
natural gas. Since the precursors of product demand are linked to economic
activity, natural gas demand will tend to reflect economic conditions.
However,
other factors such as weather significantly influence natural gas
demand.
The
NYMEX
is the world’s largest physical commodity futures exchange and the dominant
market for the trading of energy and precious metals. The Benchmark Futures
Contract trades in units of 10,000 mmBtu and is based on delivery at the
Henry
Hub in Louisiana, the nexus of 16 intra- and interstate natural gas pipeline
systems that draw supplies from the region’s prolific gas deposits. The
pipelines serve markets throughout the U.S. East Coast, the Gulf Coast,
the
Midwest, and up to the Canadian border. Because of the volatility of natural
gas
prices, a vigorous basis market has developed in the pricing relationships
between the Henry Hub and other important natural gas market centers in
the
continental United States and Canada. The NYMEX makes available for trading
a
series of basis swap futures contracts that are quoted as price differentials
between approximately 30 natural gas pricing points and the Henry Hub.
The basis
contracts trade in units of 2,500 mmBtu on the NYMEX ClearPort® trading
platform. The NYMEX ClearPort® is an electronic trading platform through which a
slate of energy futures contracts are available for competitive trading.
Transactions can also be consummated off-NYMEX and submitted to the NYMEX
for
clearing via the NYMEX ClearPort® clearing website as an exchange of futures for
physicals or an exchange of futures for swaps transactions.
Light,
Sweet Crude
Oil. Crude oil is the world’s most actively traded commodity.
The Futures Contracts for light, sweet crude oil that are traded on the
NYMEX are the world’s most liquid forum for crude oil trading, as well as the
most liquid futures contracts on a physical commodity. Due to the liquidity
and
price transparency of oil Futures Contracts, they are used as a principal
international pricing benchmark. The Futures Contracts for light, sweet
crude oil trade on the NYMEX in units of 1,000 U.S. barrels (42,000 gallons)
and, if not closed out before maturity, will result in delivery of oil
to
Cushing, Oklahoma, which is also accessible to the world market by two
major
interstate petroleum pipeline systems.
Demand
for petroleum products by consumers, as well as agricultural, manufacturing
and
transportation industries, determines demand for crude oil by refiners.
Since
the precursors of product demand are linked to economic activity, crude
oil
demand will tend to reflect economic conditions. However, other factors
such as
weather also influence product and crude oil demand.
Crude
oil
supply is determined by both economic and political factors. Oil prices
(along
with drilling costs, availability of attractive prospects for drilling,
taxes
and technology, among other factors) determine exploration and development
spending, which influence output capacity with a lag. In the short run,
production decisions by Organization of Petroleum Exporting Countries ("OPEC")
also affect supply and prices. Oil export embargoes and the current conflict
in
Iraq represent other routes through which political developments move the
market. It is not possible to predict the aggregate effect of all or any
combination of these factors.
In
Europe, Brent crude oil is the standard for futures contracts traded on
the ICE
Futures, an electronic marketplace for energy trading and price discovery.
Brent
crude oil is the price reference for two-thirds of the world’s traded
oil.
10
Heating
Oil. Heating oil,
also known as No. 2 fuel oil, accounts for 25% of the yield of a barrel
of crude
oil, the second largest “cut” from oil after gasoline. The heating oil Futures
Contract, listed and traded at the NYMEX, trades in units of 42,000 gallons
(1,000 barrels) and is based on delivery in the New York harbor, the principal
cash market center. The price of heating oil has historically been
volatile.
Gasoline.
Gasoline
is the
largest single volume refined product sold in the U.S. and accounts for
almost
half of national oil consumption. The gasoline Futures Contract, listed
and
traded on the NYMEX, trades in units of 42,000 gallons (1,000 barrels)
and is
based on delivery at petroleum products terminals in the New York harbor,
the
major East Coast trading center for imports and domestic shipments from
refineries in the New York harbor area or from the Gulf Coast refining
centers.
The price of gasoline has historically been volatile.
Why
Does USNG Purchase and
Sell Futures Contracts?
USNG’s
investment objective is to have the changes in percentage terms of the
units’
NAV reflect the changes in percentage terms of the Benchmark Futures
Contract, less USNG’s expenses. USNG invests primarily in Futures
Contracts. USNG seeks to have its aggregate NAV approximate at all times
the
aggregate face amount of the Futures Contracts and Other Natural Gas
Related Investments it holds.
Other
than investing in Futures Contracts and Other Natural Gas Related
Investments, USNG only invests in assets to support these investments in
Natural
Gas Interests. At any given time, most of USNG’s investments are in Treasuries,
cash and/or cash equivalents that serve as segregated assets supporting
USNG’s positions in Futures Contracts and Other Natural Gas Related
Investments. For example, the purchase of a Futures Contract with a stated
value
of $10 million would not require USNG to pay $10 million upon entering
into the
contract; rather, only a margin deposit, generally of 5% to 10% of the
stated
value of the Futures Contract, would be required. To secure
its Futures Contract obligations, USNG would deposit the required
margin with the futures commission merchant and would separately hold,
through
its Custodian, Treasuries, cash and/or cash equivalents in an amount
equal to the balance of the current market value of the contract, which
at the
contract’s inception would be $10 million minus the amount of the deposit, or
$9.5 million (assuming a 5% margin).
As
a
result of the foregoing, between 5% and 10% of USNG’s assets are held as margin
in segregated accounts with the futures commission merchant. In addition
to the
Treasuries or cash it posts with the futures commission merchant for
the Futures Contracts it owns, USNG holds through the Custodian,
Treasuries, cash and/or cash equivalents that can be posted as margin or as
collateral to support its over-the-counter contracts. USNG earns interest
income
from the Treasuries and/or
cash equivalents that it purchases, and on the cash it holds through the
Custodian. The earned interest income increases the NAV and limited
partners’ capital contribution accounts. USNG reinvests the earned interest
income, holds it in cash, and uses it to pay its expenses. When reinvesting
the
earned interest income, USNG makes investments that are consistent with
its
investment objectives.
11
What
is the Flow of
Units?
What
are the Trading Policies of
USNG?
Liquidity
USNG
invests only in Futures Contracts and Other Natural Gas Related Investments
that are traded in sufficient volume to permit, in the opinion of the General
Partner, ease of taking and liquidating positions in these financial
interests.
Spot
Commodities
While
natural gas Futures Contracts traded on the NYMEX can be physically settled,
USNG does not intend to take or make physical delivery. However, USNG may
from
time to time trade in Other Natural Gas Related Investments, including
contracts based on the spot price of natural gas.
12
While
USNG’s historical ratio of margin to total assets has generally ranged from
5% to 10%, the General Partner endeavors to have the value of USNG’s Treasuries,
cash and/or cash equivalents, whether held by USNG or posted as margin or
collateral at all times, approximate the aggregate face value of USNG's
obligations under its Futures Contracts and Other Natural Gas Related
Investments.
Borrowings
Borrowings
are not used by USNG, unless USNG is required to borrow money in the event
of
physical delivery, USNG trades in cash commodities, or for short-term needs
created by unexpected redemptions. USNG maintains the value of its Treasuries,
cash and/or cash equivalents whether held by USNG or posted as margin or
collateral to at all times approximate the aggregate face value of its
obligations under USNG's Futures Contracts and Other Natural Gas Related
Investments. USNG has not established and does not plan to establish credit
lines.
USNG
has
not and will not employ the technique, commonly known as pyramiding, in which
the speculator uses unrealized profits on existing positions as variation
margin
for the purchase or sale of additional positions in the same or another
commodity interest.
Who
are the Service
Providers?
BBH&Co.
is the registrar and transfer agent for the units. BBH&Co. is also the
Custodian for USNG. In this capacity, BBH&Co. holds USNG’s Treasuries,
cash and/or cash equivalents pursuant to a custodial agreement. In
addition, BBH&Co. performs certain administrative and accounting services
for USNG and prepares certain Securities and Exchange Commission ("SEC")
and
CFTC reports on behalf of USNG. The General Partner pays BBH&Co. a fee
for these services.
USNG
also
employs a Marketing Agent. The General Partner pays the Marketing Agent
a marketing fee of $425,000 per annum plus an incentive fee as follows:
0.00% on USNG’s assets from $0-500 million; 0.04% on USNG’s assets from $500
million-$4 billion; and 0.03% on USNG’s assets in excess of $4 billion;
provided, however, that in no event may the aggregate compensation paid to
the
Marketing Agent and any affiliate of the General Partner for
distribution-related services in connection with the offering of units exceed
ten percent (10%) of the gross proceeds of the offering.
UBS
Securities LLC (“UBS Securities”) is USNG’s futures commission merchant. USNG
and UBS Securities have entered into an Institutional Futures Client Account
Agreement. This Agreement requires UBS Securities to provide services to
USNG in
connection with the purchase and sale of Natural Gas Interests that may be
purchased or sold by or through UBS Securities for USNG’s account. USNG pays the
fees of UBS Securities.
UBS
Securities’ principal business address is 677 Washington Blvd, Stamford, CT
06901. UBS Securities is a futures clearing broker for USNG. UBS Securities
is
registered in the U.S. with the Financial Industry Regulatory
Authority ("FINRA") as a broker-dealer and with the CFTC as a futures
commission merchant. UBS Securities is a member of various U.S. futures and
securities exchanges.
UBS
Securities was involved in the 2003 Global Research Analyst Settlement. This
settlement was part of the global settlement that UBS Securities and nine
other
firms reached with the SEC, FINRA, New York Stock Exchange (the "NYSE") and
various state regulators. As part of the settlement, UBS Securities agreed
to pay $80,000,000 divided among retrospective relief, for procurement of
independent research and for investor education. UBS Securities has also
undertaken to adopt enhanced policies and procedures reasonably designed
to
address potential conflicts of interest arising from research
practices.
On
June
27, 2007, the Office of the Secretary of the Commonwealth of Massachusetts
filed
an administrative complaint (the “Complaint”) and notice of adjudicatory
proceeding, captioned In The Matter of UBS Securities, LLC, Docket No.
E-2007-0049, which alleges, in sum and substance, that UBS Securities has
been
violating the Massachusetts Uniform Securities Act (the “MUSA”) and related
regulations by providing the advisers for certain hedge funds with gifts
and
gratuities in the form of below market office rents, personal loans with
below
market interest rates, event tickets, and other perks, in order to induce
those
hedge fund advisers to increase or retain their level of prime brokerage
fees
paid to UBS Securities. The Secretary seeks to require UBS Securities to
permanently cease and desist from conduct that violates the MUSA and
regulations, to censure UBS Securities, to require UBS Securities to pay
an
administrative fine of an unspecified amount, and to find as fact the
allegations of the Complaint.
13
Further,
UBS Securities, like most full service investment banks and broker-dealers,
receives inquiries and is sometimes involved in investigations by the SEC,
FINRA, NYSE and various other regulatory organizations, exchanges and
government agencies. UBS Securities fully cooperates with the authorities
in all
such requests. UBS Securities regularly discloses
to FINRA arbitration awards, disciplinary action and regulatory events. These
disclosures are publicly available on FINRA’s website at www.finra.org. Actions
with respect to UBS Securities’ futures commission merchant business are
publicly available on the website of the NFA (www.nfa.futures.org).
UBS
Securities acts only as clearing broker for USNG and, as such, is paid
commissions for executing and clearing trades on behalf of USNG. UBS Securities
neither acts in any supervisory capacity with respect to the General Partner
nor
participates in the management of the General Partner or USNG.
Currently,
the General Partner does not employ commodity trading advisors. If, in the
future, the General Partner does employ commodity trading advisors, it will
choose each advisor based on arms-length negotiations and will consider the
advisor’s experience, fees and reputation.
Fees
of USNG
Fees
and Compensation Arrangements with the General Partner and Non-Affiliated
Service Providers*
|
Service
Provider
|
Compensation
Paid by the General Partner
|
|
Brown
Brothers Harriman & Co., Custodian and Administrator
|
Minimum
amount of $125,000 annually* for its custody, fund accounting
and fund
administration services rendered to all funds, as well as a $25,000
annual
fee for its transfer agency services. In addition, an asset-based
charge
of (a) 0.06% for the first $500 million of USOF, USNG, US12OF and
USG's combined assets, (b) 0.0465% for USOF, USNG, US12OF and USG’s
combined assets greater than $500 million but less than $1 billion,
and
(c) 0.035% once USOF, USNG, US12OF and USG’s combined net assets
exceed $1 billion.**
|
|
ALPS
Distributors, Inc.,
Marketing
Agent
|
0.06%
on assets up to $3 billion; 0.04% on assets in excess of $3
billion.**
|
*
The annual minimum amount will not apply if the asset-based charge for
all
accounts in the aggregate exceeds $125,000. The General Partner also will
pay
transaction charge fees to BBH&Co., ranging from $7.00 to $15.00 per
transaction for the funds.
**
The
General Partner pays this compensation.
Fees
and Compensation Arrangements
between USNG and Non-Affiliated Service Providers***
|
Service
Provider
|
Compensation
Paid by USNG
|
| UBS Securities LLC, Futures Commission Merchant | Approximately $4.00 per buy or sell |
|
Non-Affiliated
Brokers
|
Approximately
0.20% of assets
|
***USNG
pays this compensation.
NYMEX
Licensing Fee****
|
Assets
|
Licensing
Fee
|
|
First
$1,000,000,000
|
0.04%
of NAV
|
|
After
the first $1,000,000,000
|
0.02%
of NAV
|
****
Fees are calculated
on a daily basis (accrued at 1/365 of the applicable percentage of NAV
on that
day) and paid on a monthly basis. USNG is responsible for its pro rata
share of the assets held by USOF, USNG, US12OF and USG as well as other
funds managed by the General Partner, including US12NG and USHO, when and
if
such funds commence operations.
Compensation
to the General Partner
|
Assets
|
Management
Fee
|
|
First
$1,000,000,000
|
0.60%
of NAV
|
|
After
the first $1,000,000,000
|
0.50%
of NAV
|
Form
of Units
Registered
Form.
Units
are issued in registered form in accordance with the LP Agreement. The
Administrator has been appointed registrar and transfer agent for the purpose
of
transferring units in certificated form. The Administrator keeps a record
of all
holders of the units in the registry (the “Register”). The General Partner
recognizes transfers of units in certificated form only if done in accordance
with the LP Agreement. The beneficial interests in such units are held
in
book-entry form through participants and/or accountholders in the Depository
Trust Company ("DTC").
Book
Entry.
Individual certificates are not issued for the units. Instead, units are
represented by one or more global certificates, which are deposited by
the
Administrator with DTC and registered in the name of Cede & Co., as nominee
for DTC. The global certificates evidence all of the units outstanding
at any
time. Unitholders are limited to (1) participants in DTC such as banks,
brokers, dealers and trust companies ("DTC Participants"), (2) those who
maintain, either directly or indirectly, a custodial relationship with
a DTC
Participant ("Indirect Participants"), and (3) those banks, brokers,
dealers, trust companies and others who hold interests in the units through
DTC
Participants or Indirect Participants, in each case who satisfy the requirements
for transfers of units. DTC Participants acting on behalf of investors
holding
units through such participants’ accounts in DTC follow the delivery
practice applicable to securities eligible for DTC’s Same-Day Funds Settlement
System. Units are credited to DTC Participants’ securities accounts following
confirmation of receipt of payment.
DTC.
DTC is
a limited purpose trust company organized under the laws of the State of
New
York and is a member of the Federal Reserve System, a “clearing corporation”
within the meaning of the New York Uniform Commercial Code and a “clearing
agency” registered pursuant to the provisions of Section 17A of the Securities
Exchange Act of 1934, as amended (the “Exchange Act”). DTC holds securities for
DTC Participants and facilitates the clearance and settlement of transactions
between DTC Participants through electronic book-entry changes in accounts
of
DTC Participants.
15
Transfer
of Units
Transfers
of Units Only Through
DTC. The units are only transferable through the book-entry
system
of DTC. Limited partners who are not DTC Participants may transfer their
units
through DTC by instructing the DTC Participant holding their units (or
by
instructing the Indirect Participant or other entity through which their
units
are held) to transfer the units. Transfers are made in accordance with
standard
securities industry practice.
Transfers
of interests in units with DTC are made in accordance with the usual rules
and
operating procedures of DTC and the nature of the transfer. DTC has established
procedures to facilitate transfers among the participants and/or accountholders
of DTC. Because DTC can only act on behalf of DTC Participants, who in
turn act
on behalf of Indirect Participants, the ability of a person or entity having
an
interest in a global certificate to pledge such interest to persons or
entities
that do not participate in DTC, or otherwise take actions in respect of
such
interest, may be affected by the lack of a definitive security in respect
of
such interest.
DTC
has
advised us that it takes any action permitted to be taken by a unitholder
(including, without limitation, the presentation of a global certificate
for
exchange) only at the direction of one or more DTC Participants in whose
account
with DTC interests in global certificates are credited and only in respect
of
such portion of the aggregate principal amount of the global certificate
as to
which such DTC Participant or Participants has or have given such
direction.
Transfer/Application
Requirements. All purchasers of USNG’s units, and potentially any
purchasers of units in the future, who wish to become limited partners
or other
record holders and receive cash distributions, if any, or have certain
other
rights, must deliver an executed transfer application in which the purchaser
or
transferee must certify that, among other things, he, she or it agrees
to be
bound by USNG’s LP Agreement and is eligible to purchase USNG’s securities. Each
purchaser of units must execute a transfer application and certification.
The
obligation to provide the form of transfer application is imposed on the
seller
of units or, if a purchase of units is made through an exchange, the form
may be
obtained directly through USNG. Further, the General Partner may request
each
record holder to furnish certain information, including that holder’s
nationality, citizenship or other related status. A record holder is a
unitholder that is, or has applied to be, a limited partner. An investor
who is
not a U.S. resident may not be eligible to become a record holder or one
of the
USNG’s limited partners if that investor’s ownership would subject USNG to the
risk of cancellation or forfeiture of any of USNG’s assets under any federal,
state or local law or regulation. If the record holder fails to furnish
the
information or if the General Partner determines, on the basis of the
information furnished by the holder in response to the request, that such
holder
is not qualified to become one of USNG’s limited partners, the General Partner
may be substituted as a holder for the record holder, who will then be
treated
as a non-citizen assignee, and USNG will have the right to redeem those
securities held by the record holder.
A
transferee’s broker, agent or nominee may complete, execute and deliver a
transfer application and certification. USNG may, at its discretion, treat
the
nominee holder of a unit as the absolute owner. In that case, the beneficial
holder’s rights are limited solely to those that it has against the nominee
holder as a result of any agreement between the beneficial owner and the
nominee
holder.
A
person
purchasing USNG’s existing units, who does not execute a transfer application
and certify that the purchaser is eligible to purchase those securities
acquires
no rights in those securities other than the right to resell those securities.
Whether or not a transfer application is received or the consent of the
General
Partner obtained, USNG's units are securities and are transferable according
to
the laws governing transfers of securities.
16
Any
transfer of units will not be recorded by the transfer agent or recognized
by
the General Partner unless a completed transfer application is delivered
to the
General Partner or the Administrator. When acquiring units, the transferee
of
such units that completes a transfer application will:
·
be
an
assignee until admitted as a substituted limited partner upon the consent
and
sole discretion of the General Partner and the recording of the assignment
on
the books and records of the partnership;
·
automatically
request admission as a substituted limited partner;
·
agree
to
be bound by the terms and conditions of, and execute, the LP
Agreement;
·
represent
that such transferee has the capacity and authority to enter into the LP
Agreement;
·
grant
powers of attorney to the General Partner and any liquidator of USNG;
and
·
make
the
consents and waivers contained in the LP Agreement.
An
assignee will become a limited partner in respect of the transferred units
upon
the consent of the General Partner and the recordation of the name of the
assignee on our books and records. Such consent may be withheld in the
sole
discretion of the General Partner.
If
consent of the General Partner is withheld, such transferee shall be an
assignee. An assignee shall have an interest in the partnership equivalent
to
that of a limited partner with respect to allocations and distributions,
including, without limitation, liquidating distributions, of the partnership.
With respect to voting rights attributable to units that are held by assignees,
the General Partner shall be deemed to be the limited partner with respect
thereto and shall, in exercising the voting rights in respect of such units
on
any matter, vote such units at the written direction of the assignee who
is the
recordholder of such units. If no such written direction is received, such
units
will not be voted. An assignee shall have no other rights of a limited
partner.
Until
a
unit has been transferred on USNG's books, we and the transfer agent may
treat
the record holder of the unit as the absolute owner for all purposes, except
as
otherwise required by law or stock exchange regulations.
Withdrawal
of Limited
Partners
As
discussed in the LP Agreement, if the General Partner gives at least fifteen
(15) days’ written notice to a limited partner, then the General Partner may for
any reason, in its sole discretion, require any such limited partner to
withdraw
entirely from the partnership or to withdraw a portion of its partner capital
account. If the General Partner does not give at least fifteen (15) days’
written notice to a limited partner, then it may only require withdrawal
of all
or any portion of the capital account of any limited partner in the following
circumstances: (i) the unitholder made a misrepresentation to the General
Partner in connection with its purchase of units; or (ii) the limited
partner’s ownership of units would result in the violation of any law or
regulations applicable to the partnership or a partner. In these circumstances,
the General Partner without notice may require the withdrawal at any time,
or
retroactively. The limited partner thus designated shall withdraw from
the
partnership or withdraw that portion of its partner capital account specified,
as the case may be, as of the close of business on such date as determined
by
the General Partner. The limited partner thus designated shall be deemed
to have
withdrawn from the partnership or to have made a partial withdrawal from
its
partner capital account, as the case may be, without further action on
the part
of the limited partner and the provisions of the LP Agreement shall
apply.
17
Calculating
NAV
USNG’s
NAV is calculated by:
|
·
|
Taking
the current market value of its total
assets
|
|
·
|
Subtracting
any liabilities
|
The
Administrator calculates the NAV of USNG once each trading day. The NAV
for a
particular trading day is released after 4:15 p.m. New York time. It calculates
the NAV as of the earlier of the close of the NYSE or 4:00 p.m. New York
time.
Trading on the AMEX typically closes at 4:15 p.m. New York time. USNG 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 USNG investments as of the earlier of
the
close of the NYSE or 4:00 p.m. New York time.
In
addition, in order to provide updated information relating to USNG for
use by
investors and market professionals, the AMEX calculates and disseminates
throughout the trading day an updated indicative fund value. The indicative
fund
value is calculated by using the prior day’s closing NAV per unit of USNG as a
base and updating that value throughout the trading day to reflect changes
in
the most recently reported trade price for the Benchmark Futures Contracts
on the NYMEX. The prices reported for the active Benchmark Futures Contract
month are adjusted based on the prior day’s spread differential between
settlement values for that contract and the spot month contract. In the
event
that the spot month contract is also the active contract, the last sale
price
for the active contract is not adjusted. The indicative fund value unit
basis
disseminated during AMEX trading hours should not be viewed as an actual
real
time update of the NAV, because the NAV is calculated only once at the
end of
each trading day.
The
indicative fund value is disseminated on a per unit basis every 15 seconds
during regular AMEX trading hours of 9:30 a.m. New York time to 4:15 p.m.
New
York time. The normal trading hours of the NYMEX are 10:00 a.m. New York
time to
2:30 p.m. New York time. This means that there is a gap in time at the
beginning
and the end of each day during which USNG’s units are traded on the AMEX, but
real-time NYMEX trading prices for futures contracts traded on the NYMEX
are not available. As a result, during those gaps there is no update to
the
indicative fund value.
The
AMEX
disseminates the indicative fund value through the facilities of CTA/CQ
High
Speed Lines. In addition, the indicative fund value is published on the
AMEX's
website and is available through on-line information services such as Bloomberg
and Reuters.
Dissemination
of the indicative fund value provides additional information that is not
otherwise available to the public and is useful to investors and market
professionals in connection with the trading of USNG units on the AMEX.
Investors and market professionals are able throughout the trading day
to
compare the market price of USNG and the indicative fund value. If the
market
price of USNG units diverges significantly from the indicative fund value,
market professionals have an incentive to execute arbitrage trades. For
example, if USNG appears to be trading at a discount compared to the indicative
fund value, a market professional could buy USNG units on the AMEX and
sell
short futures contracts. Such arbitrage trades can tighten the tracking
between the market price of USNG and the indicative fund value and thus
can be
beneficial to all market participants.
In
addition, other Futures Contracts, Other Natural Gas Related Investments
and Treasuries held by USNG are valued by the Administrator, using rates
and
points received from client approved third party vendors (such as Reuters
and WM
Company) and advisor quotes. These investments are not included in the
indicative value. The indicative fund value is based on the prior day’s NAV and
moves up and down solely according to changes in the average of the prices
of
the Benchmark Futures Contracts for natural gas traded on the
NYMEX.
18
Creation
and Redemption of
Units
USNG
creates and redeems units from time to time, but only in one or more Creation
Baskets or Redemption Baskets. The creation and redemption of baskets are
only
made in exchange for delivery to USNG or the distribution by USNG of the
amount
of Treasuries and any cash represented by the baskets being created or
redeemed,
the amount of which is based on the combined NAV of the number of units
included
in the baskets being created or redeemed determined as of 4:00 p.m. New
York
time on the day the order to create or redeem baskets is properly
received.
Authorized
Purchasers are the only persons that may place orders to create and redeem
baskets. Authorized Purchasers must be (1) registered broker-dealers or
other
securities market participants, such as banks and other financial institutions,
that are not required to register as broker-dealers to engage in securities
transactions as described below, and (2) DTC Participants. To become an
Authorized Purchaser, a person must enter into an Authorized Purchaser
Agreement
with the General Partner. The Authorized Purchaser Agreement provides the
procedures for the creation and redemption of baskets and for the delivery
of
the Treasuries and any cash required for such creations and redemptions.
The
Authorized Purchaser Agreement and the related procedures attached thereto
may
be amended by USNG, without the consent of any limited partner or unitholder
or
Authorized Purchaser. Authorized Purchasers pay a transaction fee of $1,000
to
USNG for each order they place to create or redeem one or more baskets.
Authorized Purchasers who make deposits with USNG in exchange for baskets
receive
no fees, commissions or other form of compensation or inducement of any
kind
from either USNG or the General Partner, and no such person has any obligation
or responsibility to the General Partner or USNG to effect any sale or
resale of
units. As of December 31, 2007, 4 Authorized Purchasers had entered into
agreements with USNG to purchase Creation Baskets.
Certain
Authorized Purchasers are expected to have the facility to participate
directly
in the physical natural gas market and the natural gas futures market.
In some
cases, an Authorized Purchaser or its affiliates may from time to time
acquire
natural gas or sell natural gas and may profit in these instances. The
General
Partner believes that the size and operation of the natural gas market
make it
unlikely that an Authorized Purchaser’s direct activities in the natural gas or
securities markets will impact the price of natural gas, Futures Contracts,
or
the price of the units.
Each
Authorized Purchaser is required to be registered as a broker-dealer under
the
Exchange Act and is a member in good standing with FINRA, or exempt from
being
or otherwise not required to be licensed as a broker-dealer or a member
of
FINRA, and qualified to act as a broker or dealer in the states or other
jurisdictions where the nature of its business so requires. Certain Authorized
Purchasers may also be regulated under federal and state banking laws and
regulations. Each Authorized Purchaser has its own set of rules and procedures,
internal controls and information barriers as it determines is appropriate
in
light of its own regulatory regime.
Under
the
Authorized Purchaser Agreement, the General Partner has agreed to indemnify
the
Authorized Purchasers against certain liabilities, including liabilities
under
the Securities Act of 1933, as amended, and to contribute to the payments
the
Authorized Purchasers may be required to make in respect of those
liabilities.
The
following description of the procedures for the creation and redemption
of
baskets is only a summary and an investor should refer to the relevant
provisions of the LP Agreement and the form of Authorized Purchaser Agreement
for more detail, each of which is attached as an exhibit to this annual
report
on Form 10-K.
Creation
Procedures
On
any
business day, an Authorized Purchaser may place an order with the Marketing
Agent to create one or more baskets. For purposes of processing purchase
and
redemption orders, a “business day” means any day other than a day when any of
the AMEX, the NYMEX or the NYSE is closed for regular trading. Purchase
orders
must be placed by 12:00 p.m. New York time or the close of regular trading
on
the NYSE, whichever is earlier; except in the case of the initial Authorized
Purchaser’s or any other Authorized Purchaser’s initial order to purchase one or
more Creation Baskets on the first day the baskets are to be offered and
sold,
when such orders shall be placed by 9:00 a.m. New York time on the day
agreed to
by the General Partner and the initial Authorized Purchaser. The day on
which
the Marketing Agent receives a valid purchase order is the purchase order
date.
By
placing a purchase order, an Authorized Purchaser agrees to deposit Treasuries,
cash or a combination of Treasuries and cash with USNG, as described below.
Prior to the delivery of baskets for a purchase order, the Authorized Purchaser
must also have wired to the Custodian the non-refundable transaction fee
due for
the purchase order. Authorized Purchasers may not withdraw a creation
request.
Determination
of Required Deposits
The
total deposit required to create each basket (“Creation Basket Deposit”) is the
amount of Treasuries and/or cash that is in the same proportion to the
total
assets of USNG (net of estimated accrued but unpaid fees, expenses and
other
liabilities) on the date the order to purchase is accepted as the number
of
units to be created under the purchase order is in proportion to the
total
number of units outstanding on the date the order is received. The General
Partner determines, directly in its sole discretion or in consultation
with the
Administrator, the requirements for Treasuries and the amount of cash,
including
the maximum permitted remaining maturity of a Treasury and proportions
of
Treasury and cash that may be included in deposits to create baskets.
The
Marketing Agent publishes such requirements at the beginning of each
business
day. The amount of cash deposit required is the difference between the
aggregate
market value of the Treasuries required to be included in a Creation
Basket
Deposit as of 4:00 p.m. New York time on the date the order to purchase
is
properly received and the total required deposit.
Delivery
of Required Deposits
An
Authorized Purchaser who places a purchase order is responsible for transferring
to USNG’s account with the Custodian the required amount of Treasuries and cash
by the end of the third business day following the purchase order date.
Upon
receipt of the deposit amount, the Administrator directs DTC to credit
the
number of baskets ordered to the Authorized Purchaser’s DTC account on the third
business day following the purchase order date. The expense and risk
of delivery
and ownership of Treasuries until such Treasuries have been received
by the
Custodian on behalf of USNG is borne solely by the Authorized
Purchaser.
Because
orders to purchase baskets must be placed by 12:00 p.m., New York time,
but the
total payment required to create a basket during the continuous offering
period
will not be determined until 4:00 p.m., New York time, on the date the
purchase
order is received, Authorized Purchasers will not know the total amount
of the
payment required to create a basket at the time they submit an irrevocable
purchase order for the basket. USNG’s NAV and the total amount of the payment
required to create a basket could rise or fall substantially between
the time an
irrevocable purchase order is submitted and the time the amount of the
purchase
price in respect thereof is determined.
19
Rejection
of Purchase Orders
The
General Partner acting by itself or through the Marketing Agent may reject
a
purchase order or a Creation Basket Deposit if:
|
·
|
it
determines that the investment alternative available to USNG
at that time
will not enable it to meet its investment
objective;
|
|
·
|
it
determines that the purchase order or the Creation Basket Deposit
is not
in proper form;
|
|
·
|
it
believes that the purchase order or the Creation Basket Deposit
would have
adverse tax consequences to USNG or its
unitholders;
|
|
·
|
the
acceptance or receipt of the Creation Basket Deposit would,
in the opinion
of counsel to the General Partner, be unlawful;
or
|
|
·
|
circumstances
outside the control of the General Partner, Marketing Agent
or Custodian
make it, for all practical purposes, not feasible to process
creations of
baskets.
|
None of the General Partner, Marketing Agent or Custodian will be liable for the rejection of any purchase order or Creation Basket Deposit.
Redemption Procedures
The
procedures by which an Authorized Purchaser can redeem one or more baskets
mirror the procedures for the creation of baskets. On any business day,
an
Authorized Purchaser may place an order with the Marketing Agent to redeem
one
or more baskets. Redemption orders must be placed by 12:00 p.m. New York
time or
the close of regular trading on the NYSE, whichever is earlier. A redemption
order so received will be effective on the date it is received in satisfactory
form by the Marketing Agent. The redemption procedures allow Authorized
Purchasers to redeem baskets and do not entitle an individual unitholder
to
redeem any units in an amount less than a Redemption Basket, or to redeem
baskets other than through an Authorized Purchaser. By placing a redemption
order, an Authorized Purchaser agrees to deliver the baskets to be redeemed
through DTC’s book-entry system to USOF not later than 3:00 p.m. New York time
on the third business day following the effective date of the redemption
order.
Prior to the delivery of the redemption distribution for a redemption order,
the
Authorized Purchaser must also have wired to USOF’s account at the Custodian the
non-refundable transaction fee due for the redemption order. Authorized
Purchasers may not withdraw a redemption request.
Determination
of Redemption Distribution
The
redemption distribution from USNG consists of a transfer to the redeeming
Authorized Purchaser of an amount of Treasuries and/or cash that is in
the same
proportion to the total assets of USNG (net of estimated accrued but
unpaid
fees, expenses and other liabilities) on the date the order to redeem
is
properly received as the number of units to be redeemed under the redemption
order is in proportion to the total number of units outstanding on the
date the
order is received. The General Partner, directly or in consultation with
the
Administrator, determines the requirements for Treasuries and the amounts
of
cash, including the maximum permitted remaining maturity of a Treasury,
and the
proportions of Treasuries and cash that may be included in distributions
to
redeem baskets. The Marketing Agent publishes such requirements as of
4:00 p.m.
New York time on the redemption order date.
Delivery
of Redemption Distribution
The
redemption distribution due from USNG will be delivered to the Authorized
Purchaser by 3:00 p.m. New York time on the third business day following
the
redemption order date if, by 3:00 p.m. New York time on such third business
day,
USNG’s DTC account has been credited with the baskets to be redeemed. If USNG’s
DTC account has not been credited with all of the baskets to be redeemed
by such
time, the redemption distribution will be delivered to the extent of
whole
baskets received. Any remainder of the redemption distribution will be
delivered
on the next business day to the extent of remaining whole baskets received
if
USNG receives the fee applicable to the extension of the redemption distribution
date which the General Partner may, from time to time, determine and
the
remaining baskets to be redeemed are credited to USNG’s DTC account by 3:00 p.m.
New York time on such next business day. Any further outstanding amount
of the
redemption order shall be cancelled. Pursuant to information from the
General
Partner, the Custodian will also be authorized to deliver the redemption
distribution notwithstanding that the baskets to be redeemed are not
credited to
USNG’s DTC account by 3:00 p.m. New York time on the third business day
following the redemption order date if the Authorized Purchaser has
collateralized its obligation to deliver the baskets through DTC’s book
entry-system on such terms as the General Partner may from time to time
determine.
Suspension
or Rejection of Redemption Orders
The
General Partner may, in its discretion, suspend the right of redemption,
or
postpone the redemption settlement date, (1) for any period during which
the
AMEX or the NYMEX is closed other than customary weekend or holiday closings,
or
trading on the AMEX or the NYMEX is suspended or restricted, (2) for
any period
during which an emergency exists as a result of which delivery, disposal
or
evaluation of Treasuries is not reasonably practicable, or (3) for such
other
period as the General Partner determines to be necessary for the protection
of
the limited partners. None of the General Partner, the Marketing Agent,
the
Administrator, or the Custodian will be liable to any person or in any
way for
any loss or damages that may result from any such suspension or
postponement.
The
General Partner will reject a redemption order if the order is not in
proper
form as described in the Authorized Purchaser Agreement or if the fulfillment
of
the order, in the opinion of its counsel, might be unlawful.
Creation
and Redemption Transaction
Fee
To
compensate USNG for its expenses in connection with the creation and redemption
of baskets, an Authorized Purchaser is required to pay a transaction fee
to USNG
of $1,000 per order to create or redeem baskets. An order may include multiple
baskets. The transaction fee may be reduced, increased or otherwise changed
by
the General Partner. The General Partner shall notify DTC of any change
in the
transaction fee and will not implement any increase in the fee for the
redemption of baskets until 30 days after the date of the
notice.
Tax
Responsibility
Authorized
Purchasers are responsible for any transfer tax, sales or use tax, stamp
tax,
recording tax, value added tax or similar tax or governmental charge applicable
to the creation or redemption of baskets, regardless of whether or not
such tax
or charge is imposed directly on the Authorized Purchaser, and agree to
indemnify the General Partner and USNG if they are required by law to pay
any
such tax, together with any applicable penalties, additions to tax or interest
thereon.
Secondary
Market
Transactions
As
noted,
USNG creates and redeems units from time to time, but only in one or more
Creation Baskets or Redemption Baskets. The creation and redemption of
baskets
is only made in exchange for delivery to USNG or
the
distribution by USNG of the amount of Treasuries and cash represented by
the
baskets being created or redeemed, the amount of which is based on the
aggregate
NAV of the number of units included in the baskets being created or redeemed
determined on the day the order to create or redeem baskets is properly
received.
20
As
discussed above, Authorized Purchasers are the only persons that may place
orders to create and redeem baskets. Authorized Purchasers must be registered
broker-dealers or other securities market participants, such as banks and
other
financial institutions that are not required to register as broker-dealers
to
engage in securities transactions. An Authorized Purchaser is under no
obligation to create or redeem baskets, and an Authorized Purchaser is
under no
obligation to offer to the public units of any baskets it does create.
Authorized Purchasers that do offer to the public units from the baskets
they
create do so at per-unit offering prices that are expected to reflect,
among other factors, the trading price of the units on the AMEX, the NAV
of USNG
at the time the Authorized Purchaser purchased the Creation Baskets and
the
NAV at the time of the offer of the units to the public, the supply of and
demand for units at the time of sale, and the liquidity of the Futures
Contract
market and the market for Other Natural Gas Related Investments. The prices
of
units offered by Authorized Purchasers are expected to fall between USNG’s NAV
and the trading price of the units on the AMEX at the time of sale. Units
initially comprising the same basket but offered by Authorized Purchasers
to the
public at different times may have different offering prices. An order
for one
or more baskets may be placed by an Authorized Purchaser on behalf of multiple
clients. Authorized Purchasers who make deposits with USNG in exchange
for
baskets receive no fees, commissions or other form of compensation or inducement
of any kind from either USNG or the General Partner, and no such person
has any
obligation or responsibility to the General Partner or USNG to effect any
sale
or resale of units. Units are expected to trade in the secondary market
on the
AMEX. Units may trade in the secondary market at prices that are lower
or higher
relative to their NAV per unit. The amount of the discount or premium in
the
trading price relative to the NAV per unit may be influenced by various
factors,
including the number of investors who seek to purchase or sell units in
the
secondary market and the liquidity of the Futures Contracts market and the
market for Other Natural Gas Related Investments. While the units trade
on the
AMEX until 4:15 p.m. New York time, liquidity in the market for Futures
Contracts and Other Natural Gas Related Investments may be reduced after
the
close of the NYMEX at 2:30 p.m. New York time. As a result, during this
time,
trading spreads, and the resulting premium or discount, on the units may
widen.
Prior
Performance of USNG and
Affiliates
USNG’s
offering began on April 18, 2007 and is a continuous offering. As of
December 31, 2007, the total amount of money raised by USNG from Authorized
Purchasers was $1,458,787,976; the total number of Authorized Purchasers
was 4,
the number of baskets purchased by Authorized Purchasers was 379; and
the
aggregate amount of units purchased was 37.9 million. For more information
on
the performance of USNG, see the Performance Tables below.
PAST
PERFORMANCE IS NOT NECESSARILY
INDICATIVE OF FUTURE RESULTS
Experience
in Raising and Investing
in Funds through
December 31, 2007
|
Dollar
Amount Offered:
|
$
|
3,664,500,000
|
|
|
||
|
Dollar
Amount Raised:
|
$
|
1,458,787,976
|
|
|
||
|
Offering
Expenses*:
|
||
|
SEC
registration fee**:
|
$
|
104,010
|
| FINRA registration fee**: | 151,000 | |
|
AMEX
Listing fee**:
|
$
|
5,000
|
|
Auditor's
fees and expenses**:
|
$
|
29,000
|
|
Legal
fees and expenses**:
|
$
|
526,746
|
|
Printing
expenses:
|
$
|
40,323
|
|
|
||
|
Length
of Offering:
|
Continuous
|
——————
*
Amounts are for organizational and offering expenses incurred in connection
with offerings from April 18, 2007 through December 31, 2007.
**
Paid
for
by the General Partner in connection with the initial public
offering.
Performance
Capsule
|
Name
of Commodity Pool:
|
USNG
|
|||
|
Type
of Commodity Pool:
|
Exchange
traded security
|
|||
|
Inception
of Trading:
|
April
18, 2007
|
|||
|
Aggregate
Gross Capital Subscriptions (from inception through
December 31, 2007):
|
$
|
1,458,787,977
|
||
|
Total
Net Assets as of December 31, 2007:
|
$
|
593,394,981
|
*
|
|
|
Initial
NAV Per Unit as of Inception:
|
$
|
50.00
|
||
|
NAV
per Unit as of December 31, 2007:
|
$
|
36.18
|
||
|
Worst
Monthly Percentage Draw-down:
|
November
2007 (-16.16
|
%)
|
||
|
Worst
Peak-to-Valley Draw-down:
|
April
2007- August 2007 (-34.74
|
%)
|
||
|
Total
Rate of Return Since Inception:
|
(27.64
|
%)
|
||
——————
* Inclusive
of transactions recorded on a trade date + 1 basis.
|
Month
|
Rates of Return
For the Year 2007
|
|||
|
April
|
4.30
|
%
|
||
|
May
|
(0.84
|
%)
|
||
|
June
|
(15.90
|
%)
|
||
|
July
|
(9.68
|
%)
|
||
|
August
|
(13.37
|
%)
|
||
|
September
|
12.28
|
%
|
||
|
October
|
12.09
|
%
|
||
|
November
|
(16.16
|
%)
|
||
|
December
|
0.75
|
%
|
||
21
The
General Partner is also currently the general partner of USOF, US12OF and
USG.
Each of the General Partner, USOF, US12OF and USG is located in
California.
USOF
is a
publicly traded limited partnership which seeks to have the changes in
percentage terms of its units' NAV track the changes in percentage terms
of the
spot price of light, sweet crude oil delivered to Cushing, Oklahoma, as
measured by the changes in the price of the futures contract on light,
sweet
crude oil as traded on the NYMEX that is the near month contract to expire,
except when the near month contract is within two weeks of expiration,
in which
case the futures contract will be the next month contract to expire, less
USOF's
expenses. USOF invests in a mixture of listed crude oil futures contracts,
other
non-listed oil related investments, Treasuries, cash and cash equivalents.
USOF
began trading on the AMEX on April 10, 2006 and is a continuous offering.
As of
December 31, 2007, the total amount of money raised by USOF from Authorized
Purchasers was $6,142,802,106; the total number of Authorized Purchasers
was 12;
the number of baskets purchased by Authorized Purchasers was 1,074; and
the
aggregate amount of units purchased was 107.4 million.
US12OF
is
a publicly traded limited partnership which seeks to have the changes in
percentage terms of its units’ NAV track the changes in percentage
terms of the price of light, sweet crude oil delivered to Cushing, Oklahoma,
as
measured by the changes in the average of the prices of 12 futures contracts
on
crude oil traded on 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 US12OF’s expenses. US12OF invests in a
mixture of listed crude oil futures contracts, other non-listed oil related
investments, Treasuries, cash and cash equivalents. US12OF began
trading on the AMEX on December 6, 2007 and is a continuous
offering. As of December 31, 2007, the total amount of money raised
by US12OF from Authorized Purchasers was $20,127,316; the total number
of
Authorized Purchasers was 2; the number of baskets purchased by Authorized
Purchasers was 4; and the aggregate amount of units purchased was
400,000.
USG
is a
publicly traded limited partnership which seeks to have the changes in
percentage terms of its units’ NAV track the changes in percentage terms of the
price of unleaded gasoline delivered to the New York harbor, as measured
by the
changes in the price of the futures contract on gasoline traded on the
NYMEX,
less USG’s expenses. USG invests in a mixture of listed gasoline
futures contracts, other gasoline related investments, Treasuries, cash
and cash
equivalents. USG began trading on the AMEX on February 26, 2008 and
is a continuous offering. During the year ended December 31, 2007,
USG had not yet commenced investment activities nor issued units.
Since
the
offering of USOF units to the public on April 10, 2006 to December 31,
2007, the
simple average daily change in the price
of
a specified oil futures contract (the “Benchmark Oil Futures Contract”)
was -0.031%, while the simple average daily change in the NAV of USOF over
the
same time period was 0.042%. The average daily difference was 0.011% (or
1.1
basis point, where 1 basis point equals 1/100 of 1%). As a percentage of
the
daily movement of the Benchmark Oil Futures Contract, the average error
in daily
tracking by the NAV was 2.98%, meaning that over this time period USOF’s
tracking error was within the plus or minus 10% range established as its
benchmark tracking goal.
Since
the
offering of US12OF units to the public on December 6, 2007 to December
31, 2007,
the simple average daily change in the
average of the prices of 12 futures contracts on crude oil traded on the
NYMEX
(the “Benchmark 12 Month Oil Futures Contracts”) was 0.480%, while
the simple average daily change in the NAV of US12OF over the same time
period
was 0.489%. The average daily difference was 0.009% (or 0.9 basis point,
where 1
basis point equals 1/100 of 1%). As a percentage of the daily movement
of the
Benchmark 12 Month Oil Futures Contracts, the average error in daily tracking
by
the NAV was 2.651%, meaning that over this time period US12OF’s tracking error
was within the plus or minus 10% range established as its benchmark tracking
goal.
There
are
significant differences between investing in USOF and US12OF and investing
directly in the futures market. The General Partner’s results with USOF and
US12OF may not be representative of results that may be experienced with
a fund
directly investing in futures contracts or other managed funds investing
in
futures contracts. For more information on the performance of USOF and
US12OF,
see the Performance Tables below. Since
USG
did not commence investment activities nor issue units during the year
ended
December 31, 2007, performance information has not been included for
USG.
PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
Experience
in Raising and Investing in Funds through December 31, 2007
|
Dollar
Amount Offered in USOF Offering*:
|
$ | 7,094,860,000 | ||
|
Dollar
Amount Raised in USOF Offering:
|
$ | 6,142,801,102 | ||
|
Organizational
Expenses in USOF Offering:
|
||||
|
SEC
registration fee**:
|
$ | 800,474 | ||
|
FINRA
registration fee**:
|
$ | 377,500 | ||
|
AMEX
listing fee**:
|
$ | 5,000 | ||
|
Auditor’s
fees and expenses**:
|
$ | 59,000 | ||
|
Legal
fees and expenses**:
|
$ | 1,249,109 | ||
|
Printing
expenses**:
|
$ | 241,977 | ||
|
Length
of USOF offering:
|
Continuous
|
|||
|
*
|
Reflects
the offering price per unit set forth on the cover page of the
registration statement registering such units filed with the
SEC.
|
|
**
|
Through
December 31, 2006, these expenses were paid for by an affiliate
of the
General Partner in connection with the initial public offering.
Following
December 31, 2006, USOF has recorded these expenses.
|
|
Dollar
Amount Offered in US12OF Offering*:
|
$ | 550,000,000 | ||
|
Dollar
Amount Raised in US12OF Offering:
|
$ | 20,127,316 | ||
|
Organizational
Expenses in US12OF Offering:
|
||||
|
SEC
registration fee**:
|
$ | 16,885 | ||
|
FINRA
registration fee**:
|
$ | 75,500 | ||
|
AMEX
listing fee**:
|
$ | 5,000 | ||
|
Auditor’s
fees and expenses**:
|
$ | 10,700 | ||
|
Legal
fees and expenses**:
|
$ | 233,799 | ||
|
Printing
expenses**:
|
$ | 23,755 | ||
|
Length
of US12OF offering:
|
Continuous
|
|||
|
*
|
Reflects
the offering price per unit set forth on the cover page of the
registration statement registering such units filed with the
SEC.
|
|
**
|
These
expenses were paid for by the General Partner.
|
22
Compensation
to the General Partner and Other Compensation
USOF:
Expenses
Paid
by USOF through December 31, 2007 in dollar terms
(unaudited):
|
Expense
|
Amount
in Dollar
Terms
|
|||
|
Amount
Paid to General Partner in USOF Offering:
|
$ | 3,622,613 | ||
|
Amount
Paid in Portfolio Brokerage Commissions in USOF offering:
|
$ | 1,184,956 | ||
|
Other
Amounts Paid in USOF Offering:
|
$ | 1,530,281 | ||
|
Total
Expenses Paid in USOF Offering:
|
$ | 6,337,850 | ||
Expenses
Paid
by USOF through December 31, 2007 as a Percentage of Average Daily
Net Assets
(unaudited):
|
Expenses
in USOF Offering:
|
Amount
As a Percentage ofAverage
Daily Net Assets
|
|||
|
General
Partner:
|
0.50%
annualized
|
|||
|
Portfolio
Brokerage Commissions:
|
0.16%
annualized
|
|||
|
Other
Amounts Paid in USOF Offering
|
0.21%
annualized
|
|||
|
Total
Expense Ratio:
|
0.87%
annualized
|
|||
|
USOF
Performance:
|
|
|||
|
Name
of Commodity Pool:
|
USOF
|
|||
|
Type
of Commodity Pool:
|
Exchange
traded security
|
|||
|
Inception
of Trading:
|
April
10, 2006
|
|||
|
Aggregate
Subscriptions (from inception through December 31, 2007):
|
$6,142,801,105
|
|||
|
Total
Net Assets as of December 31, 2007:
|
$485,222,737
|
|||
|
Initial
NAV Per Unit as of Inception:
|
$67.39
|
|||
|
NAV
per Unit as of December 31, 2007:
|
$75.82
|
|||
|
Worst
Monthly Percentage Draw-down:
|
September
2006 (11.71%)
|
|||
|
Worst
Peak-to-Valley Draw-down:
|
June
2006 - January 2007 (30.60%)
|
|||
US12OF:
Expenses
Paid
by US12OF through December 31, 2007 in dollar terms
(unaudited):
|
Expense
|
Amount
in Dollar
Terms
|
|||
|
Amount
Paid to General Partner in US12OF Offering:
|
$ | 8,790 | ||
|
Amount
Paid in Portfolio Brokerage Commissions in US12OF
offering:
|
$ | 892 | ||
|
Other
Amounts Paid in US12OF Offering:
|
$ | 3,479 | ||
|
Total
Expenses Paid in US12OF Offering:
|
$ | 13,161 | ||
Expenses
Paid
by US12OF through December31, 2007 as a Percentage of Average Daily
Net Assets
(unaudited):
|
Expenses
in US12OF Offering:
|
Amount
As a Percentage ofAverage
Daily Net Assets
|
|
General
Partner:
|
0.60%
annualized
|
|
Portfolio
Brokerage Commissions:
|
0.06%
annualized
|
|
Other
Amounts Paid in US12OF Offering
|
0.24%
annualized
|
|
Total
Expense Ratio:
|
0.90%
annualized
|
|
US12OF
Performance:
|
|
|
Name
of Commodity Pool:
|
US12OF
|
|
Type
of Commodity Pool:
|
Exchange
traded security
|
|
Inception
of Trading:
|
December
6, 2007
|
|
Aggregate
Subscriptions (from inception through December 31, 2007):
|
$20,126,316
|
|
Total
Net Assets as of December 31, 2007:
|
$21,691,479
|
|
Initial
NAV Per Unit as of Inception:
|
$50.00
|
|
NAV
per Unit as of December 31, 2007:
|
$54.23
|
|
Worst
Monthly Percentage Draw-down:
|
N/A
|
|
Worst
Peak-to-Valley Draw-down:
|
N/A
|
COMPOSITE
PERFORMANCE DATA FOR USOF
PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
|
Month
|
Rates
of Return For
the Year 2006
|
|||
|
April*
|
3.47 | % | ||
|
May
|
(2.91 | %) | ||
|
June
|
3.16 | % | ||
|
July
|
(0.50 | %) | ||
|
August
|
(6.97 | %) | ||
|
September
|
(11.71 | %) | ||
|
October
|
(8.46 | %) | ||
|
November
|
4.73 | % | ||
|
December
|
(5.21 | %) | ||
|
Annual
Rate of Return (since inception through December 31,
2006)
|
(23.03 | %) | ||
*
Partial from April 10, 2006.
23
|
Month
|
Rates
of Return For
the Year 2007
|
|||
|
January
|
(6.55 | %) | ||
|
February
|
5.63 | % | ||
|
March
|
4.61 | % | ||
|
April
|
(4.26 | %) | ||
|
May
|
(4.91 | %) | ||
|
June
|
9.06 | % | ||
|
July
|
10.57 | % | ||
|
August
|
(4.95 | %) | ||
|
September
|
12.11 | % | ||
|
October
|
16.98 | % | ||
|
November
|
(4.82 | %) | ||
|
December
|
8.67 | % | ||
|
Annual
Rate of Return (through December 31, 2007)
|
46.17 | % | ||
COMPOSITE
PERFORMANCE DATA FOR US12OF
PAST
PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS
|
Month
|
Rates
of Return For
the Year 2007
|
|||
|
December*
|
8.46 | % | ||
|
Annual
Rate of Return (through December 31, 2007)
|
8.46 | % | ||
*
Partial from December 6, 2007.
Draw-down:
Losses experienced over a specified period. Draw-down is measured
on the basis
of monthly returns only and does not reflect intra-month
figures.
Worst
Monthly Percentage Draw-down: The largest single month loss sustained
since
inception of trading.
Worst
Peak-to-Valley Draw-down: The largest percentage decline in the NAV
per unit
over the history of the fund. This need not be a continuous decline,
but can be
a series of positive and negative returns where the negative returns
are larger
than the positive returns. Worst Peak-to-Valley Draw-down represents
the greatest percentage decline from any month-end NAV per unit that
occurs
without such month-end NAV per unit being equaled or exceeded as
of a subsequent
month-end. For example, if the NAV per unit declined by $1 in each
of January
and February, increased by $1 in March and declined again by $2 in
April, a
“peak-to-trough drawdown” analysis conducted as of the end of April would
consider that “drawdown” to be still continuing and to be $3 in amount, whereas
if the NAV per unit had increased by $2 in March, the January-February
drawdown
would have ended as of the end of February at the $2 level.
Nicholas
Gerber, the president and CEO of the General Partner, ran the Marc
Stevens
Futures Index Fund over 10 years ago. This fund combined commodity
futures with
equity stock index futures. It was a very small private offering,
which had
under $1 million in assets. The Marc Stevens Futures Index Fund was
a commodity
pool and Mr. Gerber was the CPO. Ameristock Corporation is an affiliate
of the
General Partner and it is a California-based registered investment
advisor
registered under the Investment Advisers Act of 1940, as amended
(the "Advisers
Act") that has been sponsoring and providing portfolio management
services to
mutual funds since 1995. Ameristock Corporation is the investment
adviser to the
Ameristock Mutual Fund, Inc., a mutual fund registered under the
Investment
Company Act of 1940, as amended (the "1940 Act") that focuses on
large cap U.S.
equities that has approximately $425 million in assets as of December
31, 2007.
Ameristock Corporation is also the investment advisor to the Ameristock
ETF
Trust, an open-end management investment company registered under
the 1940 Act
that seeks investment results that correspond to the performance
of U.S.
Treasury indices owned and compiled by Ryan Holdings LLC and Ryan
ALM,
Inc.
Investments
The
General Partner applies substantially all of USNG’s assets toward trading
in Futures Contracts and Other Natural Gas Related Investments, Treasuries,
cash and/or cash equivalents. The General Partner has sole authority
to
determine the percentage of assets that are:
|
·
|
held
on deposit with the futures commission merchant or other
custodian,
|
|
·
|
used
for other investments, and
|
|
·
|
held
in bank accounts to pay current obligations and as
reserves.
|
The
General Partner deposits substantially all of USNG’s net assets with the
Custodian or other custodian. When USNG purchases a Futures Contract
and certain
exchange traded Other Natural Gas Related Investments, USNG is also required
to
deposit with the futures commission merchant on behalf of the exchange a
portion of the value of the contract or other interest as security to
ensure
payment for the obligation under natural gas at maturity. This deposit is
known as “margin.” USNG invests the remainder of its assets equal to the
difference between the margin deposited and the face value of the Futures
Contract in Treasuries, cash and/or cash equivalents.
The
General Partner believes that all entities that hold or trade USNG’s assets are
based in the United States and are subject to United States
regulations.
Approximately
5% to 10% of USNG’s assets have normally been committed as margin
for Futures Contracts. However, from time to time, the percentage of assets
committed as margin may be substantially more, or less, than such range.
The
General Partner invests the balance of USNG’s assets not invested in natural gas
interests or held in margin as reserves to be available for changes in
margin.
All interest income is used for USNG’s benefit.
The
futures commission merchant, a government agency or a commodity exchange
could
increase margins applicable to USNG to hold trading positions at any
time.
Moreover, margin is merely a security deposit and has no bearing on the
profit
or loss potential for any positions taken.
USNG’s
assets are held in segregation pursuant to the CEA and CFTC
regulations.
24
The
Commodity Interest
Markets
General
The CEA
governs the regulation of commodity interest transactions, markets and
intermediaries. In December 2000, the CEA was amended by the Commodity
Futures
Modernization Act of 2000 (the "CFMA"), which substantially revised the
regulatory framework governing certain commodity interest transactions
and the
markets on which they trade. The CEA, as amended by the CFMA, now provides
for
varying degrees of regulation of commodity interest transactions depending
upon
the variables of the transaction. In general, these variables include
(1) the
type of instrument being traded (e.g., contracts for future delivery,
options,
swaps or spot contracts), (2) the type of commodity underlying the instrument
(distinctions are made between instruments based on agricultural commodities,
energy and metals commodities and financial commodities), (3) the nature
of the
parties to the transaction (retail, eligible contract participant, or
eligible
commercial entity), (4) whether the transaction is entered into on a
principal-to-principal or intermediated basis, (5) the type of market
on which
the transaction occurs, and (6) whether the transaction is subject to
clearing
through a clearing organization. Information regarding commodity interest
transactions, markets and intermediaries, and their associated regulatory
environment, is provided below.
Futures
Contracts
A
futures
contract such as a Futures Contract is a standardized contract traded
on, or
subject to the rules of, an exchange that calls for the future delivery
of a
specified quantity and type of a commodity at a specified time and place.
Futures contracts are traded on a wide variety of commodities, including
agricultural products, bonds, stock indices, interest rates, currencies,
energy
and metals. The size and terms of futures contracts on a particular commodity
are identical and are not subject to any negotiation, other than with
respect to
price and the number of contracts traded between the buyer and
seller.
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 difference
between
the price at which the futures contract is purchased or sold and the
price paid
for the offsetting sale or purchase, after allowance for brokerage commissions,
constitutes the profit or loss to the trader. Some futures contracts,
such as
stock index contracts, settle in cash (reflecting the difference between
the
contract purchase/sale price and the contract settlement price) rather
than by
delivery of the underlying commodity.
In
market
terminology, a trader who purchases a futures contract is long in the
market and
a trader who sells a futures contract is short in the market. Before
a trader
closes out his long or short position by an offsetting sale or purchase,
his
outstanding contracts are known as open trades or open positions. The
aggregate
amount of open positions held by traders in a particular contract is
referred to
as the open interest in such contract.
Forward
Contracts
A
forward
contract is a contractual obligation to purchase or sell a specified
quantity of
a commodity at or before a specified date in the future at a specified
price
and, therefore, is economically similar to a futures contract. Unlike
futures
contracts, however, forward contracts are typically traded in the
over-the-counter markets and are not standardized contracts. Forward
contracts
for a given commodity are generally available for various amounts and
maturities
and are subject to individual negotiation between the parties involved.
Moreover, generally there is no direct means of offsetting or closing
out a
forward contract by taking an offsetting position as one would a futures
contract on a U.S. exchange. If a trader desires to close out a forward
contract
position, he generally will establish an opposite position in the contract
but
will settle and recognize the profit or loss on both positions simultaneously
on
the delivery date. Thus, unlike in the futures contract market where
a trader
who has offset positions will recognize profit or loss immediately, in
the
forward market a trader with a position that has been offset at a profit
will
generally not receive such profit until the delivery date, and likewise
a trader
with a position that has been offset at a loss will generally not have
to pay
money until the delivery date. In recent years, however, the terms of
forward
contracts have become more standardized, and in some instances such contracts
now provide a right of offset or cash settlement as an alternative to
making or
taking delivery of the underlying commodity.
The
forward markets provide what has typically been a
highly liquid market for foreign exchange trading, and in certain cases
the
prices quoted for foreign exchange forward contracts may be more favorable
than
the prices for foreign exchange futures contracts traded on U.S. exchanges.
The
forward markets are largely unregulated. Forward contracts are, in general,
not
cleared or guaranteed by a third party. Commercial banks participating
in
trading foreign exchange forward contracts often do not require margin
deposits,
but rely upon internal credit limitations and their judgments regarding
the
creditworthiness of their counterparties. In recent years, however, many
over-the-counter market participants in foreign exchange trading have
begun to
require that their counterparties post margin.
Further,
as the result of the CFMA, over-the-counter derivative instruments
such as
forward contracts and swap agreements (and options on forwards and
physical
commodities) may begin to be traded on lightly-regulated exchanges
or electronic
trading platforms that may, but are not required to, provide for clearing
facilities. Exchanges and electronic trading platforms on which over-the-counter
instruments may be traded and the regulation and criteria for that
trading are
more fully described below under “Futures Exchanges and Clearing Organizations.”
Nonetheless, absent a clearing facility, USNG’s trading in foreign exchange and
other forward contracts is exposed to the creditworthiness of the counterparties
on the other side of the trade.
25
Options
on Futures
Contracts
Options
on futures contracts are standardized contracts traded on an exchange.
An option
on a futures contract gives the buyer of the option the right, but not the
obligation, to take a position at a specified price (the striking, strike,
or
exercise price) in the underlying futures contract or underlying interest.
The
buyer of a call option acquires the right, but not the obligation, to
purchase
or take a long position in the underlying interest, and the buyer of
a put
option acquires the right, but not the obligation, to sell or take a
short
position in the underlying interest.
The
seller, or writer, of an option is obligated to take a position in the
underlying interest at a specified price opposite to the option buyer
if the
option is exercised. Thus, the seller of a call option must stand ready
to take
a short position in the underlying interest at the strike price if the
buyer
should exercise the option. The seller of a put option, on the other
hand, must
stand ready to take a long position in the underlying interest at the
strike
price.
A
call
option is said to be in-the-money if the strike price is below current
market
levels and out-of-the-money if the strike price is above current market
levels.
Conversely, a put option is said to be in-the-money if the strike price
is above
the current market levels and out-of-the-money if the strike price is
below
current market levels.
Options
have limited life spans, usually tied to the delivery or settlement date
of the
underlying interest. Some options, however, expire significantly in advance
of
such date. The purchase price of an option is referred to as its premium,
which
consists of its intrinsic value (which is related to the underlying market
value) plus its time value. As an option nears its expiration date, the
time
value shrinks and the market and intrinsic values move into parity. An
option
that is out-of-the-money and not offset by the time it expires becomes
worthless. On certain exchanges, in-the-money options are automatically
exercised on their expiration date, but on others unexercised options
simply
become worthless after their expiration date.
Regardless
of how much the market swings, the most an option buyer can lose is the
option
premium. The option buyer deposits his premium with his broker, and the
money
goes to the option seller. Option sellers, on the other hand, face risks
similar
to participants in the futures markets. For example, since the seller
of a call
option is assigned a short futures position if the option is exercised,
his risk
is the same as someone who initially sold a futures contract. Because
no one can
predict exactly how the market will move, the option seller posts margin
to
demonstrate his ability to meet any potential contractual
obligations.
Options
on Forward Contracts or
Commodities
Options
on forward contracts or commodities operate in a manner similar to
options on
futures contracts. An option on a forward contract or commodity gives
the buyer
of the option the right, but not the obligation, to take a position
at a
specified price in the underlying forward contract or commodity.
However,
similar to forward contracts, options on forward contracts or on
commodities are
individually negotiated contracts between counterparties and are
typically
traded in the over-the-counter market. Therefore, options on forward
contracts
and physical commodities possess many of the same characteristics
of forward
contracts with respect to offsetting positions and credit risk that
are
described above.
Swap
Contracts
Swap
transactions generally involve contracts between two parties to exchange
a
stream of payments computed by reference to a notional amount and
the price of
the asset that is the subject of the swap. Swap contracts are principally
traded
off-exchange, although recently, as a result of regulatory changes
enacted as
part of the CFMA, certain swap contracts are now being traded in
electronic
trading facilities and cleared through clearing organizations.
Swaps
are
usually entered into on a net basis, that is, the two payment streams
are netted
out in a cash settlement on the payment date or dates specified in
the
agreement, with the parties receiving or paying, as the case may
be, only the
net amount of the two payments. Swaps do not generally involve the
delivery of
underlying assets or principal. Accordingly, the risk of loss with
respect to
swaps is generally limited to the net amount of payments that the
party is
contractually obligated to make. In some swap transactions one or
both parties
may require collateral deposits from the counterparty to support that
counterparty’s obligation under the swap agreement. If the counterparty to such
a swap defaults, the risk of loss consists of the net amount of payments
that
the party is contractually entitled to receive less any collateral deposits
it is holding.
Participants
The
two
broad classes of persons who trade commodities are hedgors and speculators.
Hedgors include financial institutions that manage or deal in interest
rate-sensitive instruments, foreign currencies or stock portfolios,
and
commercial market participants, such as farmers and manufacturers,
that market
or process commodities. Hedging is a protective procedure designed
to lock in
profits that could otherwise be lost due to an adverse movement in
the
underlying commodity, for example, the adverse price movement between
the time a
merchandiser or processor enters into a contract to buy or sell a
raw or
processed commodity at a certain price and the time he must perform
the
contract. In such a case, at the time the hedgor contracts to physically
sell
the commodity at a future date he will simultaneously buy a futures
or forward
contract for the necessary equivalent quantity of the commodity.
At the time for
performance of the contract, the hedgor may accept delivery under
his futures
contract and sell the commodity quantity as required by his physical
contract or
he may buy the actual commodity, sell if under the physical contract
and close
out his position by making an offsetting sale of a futures
contract.
26
Unlike
the hedgor, the speculator generally expects neither to make nor take
delivery
of the underlying commodity. Instead, the speculator risks his capital
with the
hope of making profits from price fluctuations in the commodities.
The
speculator is, in effect, the risk bearer who assumes the risks that
the hedgor
seeks to avoid. Speculators rarely make or take delivery of the underlying
commodity; rather they attempt to close out their positions prior to
the
delivery date. Because the speculator may take either a long or short
position
in commodities, it is possible for him to make profits or incur losses
regardless of whether prices go up or down.
Futures
Exchanges and Clearing
Organizations
Futures
exchanges provide centralized market facilities in which multiple
persons have
the ability to execute or trade contracts by accepting bids and offers
from
multiple participants. Futures exchanges may provide for execution
of trades at
a physical location utilizing trading pits and/or may provide for
trading to be
done electronically through computerized matching of bids and offers
pursuant to
various algorithms. Members of a particular exchange and the trades
executed on
such exchange are subject to the rules of that exchange. Futures
exchanges and
clearing organizations are given reasonable latitude in promulgating
rules and
regulations to control and regulate their members. Examples of regulations
by
exchanges and clearing organizations include the establishment of
initial margin
levels, rules regarding trading practices, contract specifications,
speculative
position limits, daily price fluctuation limits, and execution and
clearing
fees.
Clearing
organizations provide services designed to mutualize or transfer
the credit risk
arising from the trading of contracts on an exchange or other electronic
trading
facility. Once trades made between members of an exchange or electronic
trading
facility have been confirmed, the clearing organization becomes substituted
for
the clearing member acting on behalf of each buyer and each seller
of contracts
traded on the exchange or trading platform and in effect becomes
the other party
to the trade. Thereafter, each clearing member party to the trade
looks only to
the clearing
organization for performance. The clearing organization generally
establishes
some sort of security or guarantee fund to which all clearing members
of the
exchange must contribute; this fund acts as an emergency buffer that
is intended
to enable the clearing organization to meet its obligations with
regard to the
other side of an insolvent clearing member’s contracts. Furthermore, the
clearing organization requires margin deposits and continuously marks
positions
to market to provide some assurance that its members will be able
to fulfill
their contractual obligations. Thus, a central function of the clearing
organization is to ensure the integrity of trades, and members effecting
transactions on an exchange need not concern themselves with the
solvency of the
party on the opposite side of the trade; their only remaining concerns
are the
respective solvencies of their own customers, their clearing broker
and the
clearing organization. The clearing organizations do not deal with
customers,
but only with their member firms and the guarantee of performance
for open
positions provided by the clearing organization does not run to
customers.
U.S.
Futures
Exchanges
Futures
exchanges in the United States are subject to varying degrees of
regulation by
the CFTC based on their designation as one of the following: a designated
contract market, a derivatives transaction execution facility, an
exempt board
of trade or an electronic trading facility.
A
designated contract market is the most highly regulated level of
futures
exchange. Designated contract markets may offer products to retail
customers on
an unrestricted basis. To be designated as a contract market, the
exchange must
demonstrate that it satisfies specified general criteria for designation,
such
as having the ability to prevent market manipulation, rules and procedures
to
ensure fair and equitable trading, position limits, dispute resolution
procedures, minimization of conflicts of interest and protection
of market
participants. Among the principal designated contract markets in
the United
States are the Chicago Board of Trade, the Chicago Mercantile Exchange
and the
NYMEX. Each of the designated contract markets in the United States
must provide
for the clearance and settlement of transactions with a CFTC-registered
derivatives clearing organization.
27
A
derivatives transaction execution facility (a "DTEF"), is a new type
of exchange
that is subject to fewer regulatory requirements than a designated
contract
market but is subject to both commodity interest and participant
limitations.
DTEFs limit access to eligible traders that qualify as either eligible
contract
participants or eligible commercial entities for futures and option
contracts on
commodities that have a nearly inexhaustible deliverable supply,
are highly
unlikely to be susceptible to the threat of manipulation, or have
no cash
market, security futures products, and futures and option contracts
on
commodities that the CFTC may determine, on a case-by-case basis,
are highly
unlikely to be susceptible to the threat of manipulation. In addition,
certain
commodity interests excluded or exempt from the CEA, such as swaps,
etc. may be
traded on a DTEF. There is no requirement that a DTEF use a clearing
organization, except with respect to trading in security futures
contracts, in
which case the clearing organization must be a securities clearing
agency.
However, if futures contracts and options on futures contracts on
a DTEF are
cleared, then it must be through a CFTC-registered derivatives clearing
organization, except that some excluded or exempt commodities traded
on a DTEF
may be cleared through a clearing organization other than one registered
with
the CFTC.
An
exempt
board of trade is also a newly designated form of exchange. An exempt
board of
trade is substantially unregulated, subject only to CFTC anti-fraud
and
anti-manipulation authority. An exempt board of trade is permitted
to trade
futures contracts and options on futures contracts provided that the
underlying
commodity is not a security or securities index and has an inexhaustible
deliverable supply or no cash market. All traders on an exempt board
of trade
must qualify as eligible contract participants. Contracts deemed eligible
to be
traded on an exempt board of trade include contracts on interest rates,
exchange
rates, currencies, credit risks or measures, debt instruments, measures
of
inflation, or other macroeconomic indices or measures. There is no
requirement
that an exempt board of trade use a clearing organization. However,
if contracts
on an exempt board of trade are cleared, then it must be through a
CFTC-registered derivatives clearing organization. A board of trade
electing to
operate as an exempt board of trade must file a written notification
with the
CFTC.
An
electronic trading facility is a new form of exchange that operates
by means of
an electronic or telecommunications network and maintains an automated
audit
trail of bids, offers, and the matching of orders or the execution
of
transactions on the electronic trading facility. The CEA does not apply
to, and
the CFTC has no jurisdiction over, transactions on an electronic trading
facility in certain excluded commodities that are entered into between
principals that qualify as eligible contract participants, subject
only to CFTC
anti-fraud and anti-manipulation
authority. In general, excluded commodities include interest rates,
currencies,
securities, securities indices or other financial, economic or commercial
indices or measures.
The
General Partner intends to monitor the development of and opportunities
and
risks presented by the new less-regulated exchanges and exempt boards
and may,
in the future, allocate a percentage of USNG’s assets to trading in products on
these exchanges. Provided USNG maintains assets exceeding $5 million,
USNG would
qualify as an eligible contract participant and thus would be able
to trade on
such exchanges.
Non-U.S.
Futures
Exchanges
Non-U.S.
futures exchanges differ in certain respects from their U.S. counterparts.
Importantly, non-U.S. futures exchanges are not subject to regulation
by the
CFTC, but rather are regulated by their home country regulator. In
contrast to
U.S. designated contract markets, some non-U.S. exchanges are principals’
markets, where trades remain the liability of the traders involved,
and the
exchange or an affiliated clearing organization, if any, does not become
substituted for any party. Due to the absence of a clearing system,
such
exchanges are significantly more susceptible to disruptions. Further,
participants in such markets must often satisfy themselves as to the
individual
creditworthiness of each entity with which they enter into a trade.
Trading on
non-U.S. exchanges is often in the currency of the exchange’s home jurisdiction.
Consequently, USNG is subject to the additional risk of fluctuations
in the
exchange rate between such currencies and U.S. dollars and the possibility
that
exchange controls could be imposed in the future. Trading on non-U.S.
exchanges
may differ from trading on U.S. exchanges in a variety of ways and,
accordingly,
may subject USNG to additional risks.
28
Accountability
Levels and Position
Limits
The
CFTC
and U.S. designated contract markets have established accountability
levels and
position limits on the maximum net long or net short futures contracts in
commodity interests that any person or group of persons under common
trading control (other than a hedgor, which USNG is not) may hold,
own or
control. Among the purposes of accountability levels and position limits
is to
prevent a corner or squeeze on a market or undue influence on prices
by any
single trader or group of traders. The position limits currently established
by
the CFTC apply to certain agricultural commodity interests, such as
grains
(oats, barley, and flaxseed), soybeans, corn, wheat, cotton, eggs,
rye, and
potatoes, but not to interests in energy products. In addition, U.S.
exchanges
may set accountability levels and position limits for all commodity
interests
traded on that exchange. For example, the current accountability level
for
investments at any one time in the Benchmark Futures Contract is
12,000 contracts. The NYMEX also imposes position limits on contracts
held in
the last few days of trading in the near month contract to expire.
Certain
exchanges or clearing organizations also set limits on the total net
positions
that may be held by a clearing broker. In general, no position limits
are in
effect in forward or other over-the-counter contract trading or in
trading on
non-U.S. futures exchanges, although the principals with which USNG
and the
clearing brokers may trade in such markets may impose such limits as
a matter of
credit policy. For purposes of determining accountability levels and
position
limits USNG’s commodity interest positions will not be attributable to investors
in their own commodity interest trading.
Daily
Price
Limits
Most
U.S.
futures exchanges (but generally not non-U.S. exchanges) limit the amount
of fluctuation in some futures contract or options on futures contract
prices during a single trading period by regulations. These regulations
specify
what are referred to as daily price fluctuation limits or more commonly,
daily
limits. The daily limits establish the maximum amount that the price
of a
futures or options on futures contract may vary either up or down from
the
previous day’s settlement price. Once the daily limit has been reached in a
particular futures or options on futures contract, no trades may be
made at a
price beyond the limit. Positions in the futures or options contract
may then be
taken or liquidated, if at all, only at inordinate expense or if traders
are
willing to effect trades at or within the limit during the period for
trading on
such day. Because the daily limit rule governs price movement only
for a
particular trading day, it does not limit losses and may in fact substantially
increase losses because it may prevent the liquidation of unfavorable
positions.
Futures contract prices have occasionally moved to the daily limit
for several
consecutive trading days, thus preventing prompt liquidation of positions
and
subjecting the trader to substantial losses for those days. The concept
of daily
price limits is not relevant to over-the-counter contracts, including
forwards
and swaps, and thus such limits are not imposed by banks and others
who deal in
those markets.
In
contrast, the NYMEX does not impose daily limits but rather limits
the amount of
price fluctuation for Futures Contracts. For example, the NYMEX imposes a
$3.00 per mmBtu ($30,000 per contract) price fluctuation limit for the
Benchmark Futures Contracts. This limit is initially based off of the
previous
trading day’s settlement price. If any Benchmark Futures Contract is
traded, bid, or offered at the limit for five minutes, trading is halted
for
five minutes. When trading resumes it begins at the point where the
limit was
imposed and the limit is reset to be $3.00 per mmBtu in either direction
of that
point. If another halt were triggered, the market would continue to
be expanded
by $3.00 per mmBtu in either direction after each successive five-minute
trading
halt. There is no maximum price fluctuation limit during any one trading
session.
Commodity
Prices
Commodity
prices are volatile and, although ultimately determined by the interaction
of
supply and demand, are subject to many other influences, including
the
psychology of the marketplace and speculative assessments of future
world and
economic events. Political climate, interest rates, treaties, balance
of
payments, exchange controls and other governmental interventions as
well as
numerous other variables affect the commodity markets, and even with
comparatively complete information it is impossible for any trader
to predict
reliably commodity prices.
29
Regulation
Futures
exchanges in the United States are subject to varying degrees of regulation
under the CEA depending on whether such exchange is a designated contract
market, DTEF, exempt board of trade or electronic trading facility.
Derivatives
clearing organizations are also subject to the CEA and CFTC regulation.
The CFTC
is the governmental agency charged with responsibility for regulation
of futures
exchanges and commodity interest trading conducted on those exchanges.
The
CFTC’s function is to implement the CEA’s objectives of preventing price
manipulation and excessive speculation and promoting orderly and efficient
commodity interest markets. In addition, the various exchanges and
clearing
organizations themselves exercise regulatory and supervisory authority
over
their member firms.
The
CFTC
possesses exclusive jurisdiction to regulate the activities of CPOs
and
commodity trading advisors and has adopted regulations with respect
to the
activities of those persons and/or entities. Under the CEA, a registered
CPO,
such as the General Partner, is required to make annual filings with
the CFTC
describing its organization, capital structure, management and controlling
persons. In addition, the CEA authorizes the CFTC to require and review
books
and records of, and documents prepared by, registered CPOs. Pursuant
to this
authority, the CFTC requires CPOs to keep accurate, current and orderly
records
for each pool that they operate. The CFTC may suspend the registration
of a CPO
(1) if the CFTC finds that the operator’s trading practices tend to disrupt
orderly market conditions, (2) if any controlling person of the operator
is
subject to an order of the CFTC denying such person trading privileges
on any
exchange, and (3) in certain other circumstances. Suspension, restriction
or
termination of the General Partner’s registration as a CPO would prevent it,
until that registration were to be reinstated, from managing USNG,
and might
result in the termination of USNG. USNG itself is not required to be
registered with the CFTC in any capacity.
The
CEA
gives the CFTC similar authority with respect to the activities of
commodity
trading advisors. If a trading advisor’s commodity trading advisor registration
were to be terminated, restricted or suspended, the trading advisor
would be
unable, until the registration were to be reinstated, to render trading
advice
to USNG.
The
CEA
requires all futures commission merchants, such as USNG’s clearing brokers, to
meet and maintain specified fitness and financial requirements, to
segregate
customer funds from proprietary funds and account separately for all
customers’
funds and positions, and to maintain specified books and records open
to
inspection by the staff of the CFTC. The CFTC has similar authority
over
introducing brokers, or persons who solicit or accept orders for commodity
interest trades but who do not accept margin deposits for the execution
of
trades. The CEA authorizes the CFTC to regulate trading by futures
commission
merchants and by their officers and directors, permits the CFTC to
require
action by exchanges in the event of market emergencies, and establishes
an
administrative procedure under which customers may institute complaints
for
damages arising from alleged violations of the CEA. The CEA also gives
the
states powers to enforce its provisions and the regulations of the
CFTC.
USNG’s
investors are afforded prescribed rights for reparations under the
CEA.
Investors may also be able to maintain a private right of action for
violations
of the CEA. The CFTC has adopted rules implementing the reparation
provisions of
the CEA, which provide that any person may file a complaint for a reparations
award with the
CFTC
for violation of the CEA against a floor broker or a futures commission
merchant, introducing broker, commodity trading advisor, CPO, and their
respective associated persons.
Pursuant
to authority in the CEA, the NFA has been formed and registered with
the CFTC as
a registered futures association. At the present time, the NFA is the
only
self-regulatory organization for commodity interest professionals,
other than
futures exchanges. The CFTC has delegated to the NFA responsibility
for the
registration of commodity trading advisors, CPOs, futures commission
merchants,
introducing brokers, and their respective associated persons and floor
brokers.
The General Partner, each trading advisor, the selling agents and the
clearing
brokers are members of the NFA. As such, they are subject to NFA standards
relating to fair trade practices, financial condition and consumer
protection.
USNG itself is not required to become a member of the NFA. As the
self-regulatory body of the commodity interest industry, the NFA promulgates
rules governing the conduct of professionals and disciplines those
professionals
that do not comply with these rules. The NFA also arbitrates disputes
between
members and their customers and conducts registration and fitness screening
of
applicants for membership and audits of its existing members.
30
The
regulations of the CFTC and the NFA prohibit any representation by
a person
registered with the CFTC or by any member of the NFA, that registration
with the
CFTC, or membership in the NFA, in any respect indicates that the CFTC
or the
NFA, as the case may be, has approved or endorsed that person or that
person’s
trading program or objectives. The registrations and memberships of
the parties
described in this summary must not be considered as constituting any
such
approval or endorsement. Likewise, no futures exchange has given or
will give
any similar approval or endorsement.
The
regulation of commodity interest trading in the United States and other
countries is an evolving area of the law. The various statements made
in this
summary are subject to modification by legislative action and changes
in the
rules and regulations of the CFTC, the NFA, the futures exchanges,
clearing
organizations and other regulatory bodies.
The
function of the CFTC is to implement the objectives of the CEA of preventing
price manipulation and other disruptions to market integrity, avoiding
systemic
risk, preventing fraud and promoting innovation, competition and financial
integrity of transactions. As mentioned above, this regulation, among
other
things, provides that the trading of commodity interest contracts generally
must
be upon exchanges designated as contract markets or DTEFs and that
all trading
on those exchanges must be done by or through exchange members. Under
the CFMA,
commodity interest trading in some commodities between sophisticated
persons may
be traded on a trading facility not regulated by the CFTC. As a general
matter,
trading in spot contracts, forward contracts, options on forward contracts
or
commodities, or swap contracts between eligible contract participants
is not
within the jurisdiction of the CFTC and may therefore be effectively
unregulated. The trading advisors may engage in those transactions
on behalf of
USNG in reliance on this exclusion from regulation.
In
general, the CFTC does not regulate the interbank and forward foreign
currency
markets with respect to transactions in contracts between certain sophisticated
counterparties such as USNG or between certain regulated institutions
and retail
investors. Although U.S. banks are regulated in various ways by the
Federal
Reserve Board, the Comptroller of the Currency and other U.S. federal
and state
banking officials, banking authorities do not regulate the forward
markets.
While
the
U.S. government does not currently impose any restrictions on the movements
of
currencies, it could choose to do so. The imposition or relaxation
of exchange
controls in various jurisdictions could significantly affect the market
for that
and other jurisdictions’ currencies. Trading in the interbank market also
exposes USNG to a risk of default since failure of a bank with which
USNG had
entered into a forward contract would likely result in a default and
thus
possibly substantial losses to USNG.
The
CFTC
is prohibited by statute from regulating trading on non-U.S. futures
exchanges
and markets. The CFTC, however, has adopted regulations relating to
the
marketing of non-U.S. futures contracts in the United States. These
regulations
permit certain contracts traded on non-U.S. exchanges to be offered
and sold in
the United States.
Commodity
Margin
Original
or initial margin is the minimum amount of funds that must be deposited
by a
commodity interest trader with the trader’s broker to initiate and maintain an
open position in futures contracts. Maintenance margin is the amount
(generally
less than the original margin) to which a trader’s account may decline before he
must deliver additional margin. A margin deposit
is like a
cash performance bond. It helps assure the trader’s performance of the futures
contracts that he or she purchases or sells. Futures contracts are
customarily
bought and sold on initial margin that represents a very small percentage
(ranging upward from less than 2%) of the aggregate purchase or sales
price of
the contract. Because of such low margin requirements, price fluctuations
occurring in the futures markets may create profits and losses that,
in relation
to the amount invested, are greater than are customary in other forms
of
investment or speculation. As discussed below, adverse price changes
in the
futures contract may result in margin requirements that greatly exceed
the
initial margin. In addition, the amount of margin required in connection
with a
particular futures contract is set from time to time by the exchange
on which
the contract is traded and may be modified from time to time by the
exchange
during the term of the contract.
31
Brokerage
firms, such as USNG’s clearing brokers, carrying accounts for traders in
commodity interest contracts may not accept lower, and generally require
higher,
amounts of margin as a matter of policy to further protect themselves.
The
clearing brokers require USNG to make margin deposits equal to exchange
minimum
levels for all commodity interest contracts. This requirement may be
altered
from time to time in the clearing brokers’ discretion.
Trading
in the over-the-counter markets where no clearing facility is provided
generally
does not require margin but generally does require the extension of
credit
between counterparties.
When
a
trader purchases an option, there is no margin requirement; however,
the option
premium must be paid in full. When a trader sells an option, on the
other hand,
he or she is required to deposit margin in an amount determined by
the margin
requirements established for the underlying interest and, in addition,
an amount
substantially equal to the current premium for the option. The margin
requirements imposed on the selling of options, although adjusted to
reflect the
probability that out-of-the-money options will not be exercised, can
in fact be
higher than those imposed in dealing in the futures markets directly.
Complicated margin requirements apply to spreads and conversions, which
are
complex trading strategies in which a trader acquires a mixture of
options
positions and positions in the underlying interest.
Margin
requirements are computed each day by a trader’s clearing broker. When the
market value of a particular open commodity interest position changes
to a point
where the margin on deposit does not satisfy maintenance margin requirements,
a
margin call is made by the broker. If the margin call is not met within
a
reasonable time, the broker may close out the trader’s position. With respect to
USNG’s trading, USNG (and not its investors personally) is subject to margin
calls.
Finally,
many major U.S. exchanges have passed certain cross margining arrangements
involving procedures pursuant to which the futures and options positions
held in
an account would, in the case of some accounts, be aggregated and margin
requirements would be assessed on a portfolio basis, measuring the
total risk of
the combined positions.
SEC
Reports
USNG
makes available, free of charge, on its website, its Annual Reports
on
Form 10-K, its Quarterly Reports on Form 10-Q, its Current Reports on
Form 8-K and amendments to these reports filed or furnished pursuant to
Section 13(a) or 15(d) of the Exchange Act as soon as reasonably
practicable after these forms are filed with, or furnished to, the
SEC.
32
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Risk
Factors.
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The
risk
factors should be read in connection with the other information
included in this
annual report on Form 10-K, including Management’s Discussion and Analysis of
Financial Condition and Results of Operations and USNG’s condensed financial
statements and the related notes.
Risks
Associated With Investing Directly or Indirectly in Natural Gas
Investing
in Natural Gas Interests subjects USNG to the risks of the natural
gas industry
and this could result in large fluctuations in the price of USNG’s
units.
USNG
is
subject to the risks and hazards of the natural gas industry
because it invests
in Natural Gas Interests. The risks and hazards that are inherent in the natural
gas industry may cause the price of natural gas to widely fluctuate.
If the
changes in percentage terms of USNG’s units accurately track the percentage
changes in the Benchmark Futures Contract or the spot price of
natural gas, then
the price of its units may also fluctuate. The exploration for,
and production
of, natural gas is an uncertain process with many risks. The
cost of drilling,
completing and operating wells for natural gas is often uncertain,
and a number
of factors can delay or prevent drilling operations or production,
including:
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unexpected
drilling conditions;
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pressure
or irregularities in formations;
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equipment
failures or repairs;
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fires
or other accidents;
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adverse
weather conditions;
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pipeline
ruptures or spills; and
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shortages
or delays in the availability of drilling rigs and
the delivery of
equipment.
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Natural
gas transmission, distribution, gathering, and processing activities
involve
numerous risks that may affect the price of natural gas.
There
are
a variety of hazards inherent in natural gas transmission, distribution,
gathering, and processing, such as leaks, explosions, pollution,
release of
toxic substances, adverse weather conditions (such as hurricanes
and flooding),
pipeline failure, abnormal pressures, uncontrollable flows of
natural gas,
scheduled and unscheduled maintenance, physical damage to the
gathering or
transportation system, and other hazards which could affect the
price of natural
gas. To the extent these hazards limit the supply or delivery
of natural gas,
natural gas prices will increase.
The
price of natural gas may fluctuate on a seasonal and quarterly
basis and this
would result in fluctuations in the price of USNG’s units.
Natural
gas prices fluctuate seasonally. For example, in some parts of
the United States
and other markets, the natural gas demand for power peaks during
the cold winter
months, with market prices peaking at that time. As a result,
in the future, the
overall price of natural gas may fluctuate substantially on a
seasonal and
quarterly basis and thus make consecutive period to period comparisons
less
relevant.
Natural
gas transmission and storage operations are subject to government
regulations
and rate proceedings which could have an impact on the price
of natural
gas.
Natural
gas transmission and storage operations in North America are
subject to
regulation and oversight by the Federal Energy Regulatory Commission,
various
state regulatory agencies, and Canadian regulatory authorities.
These regulatory
bodies have the authority to effect rate settlements on natural
gas storage,
transmission and distribution services. As a consequence, the
price of natural
gas may be affected by a change in the rate settlements effected
by one or more
of these regulatory bodies.
The
price of USNG’s units may be influenced by factors such as the short-term
supply
and demand for natural gas and the short-term supply and demand
for USNG’s
units. This may cause the units to trade at a price that is
above or below
USNG’s NAV per unit. Accordingly, changes in the price of units
may
substantially vary from the changes in the spot price of natural
gas. If this
variation occurs, then investors may not be able to effectively
use USNG as a
way to hedge against natural gas-related losses or as a way
to indirectly invest
in natural gas.
While
it
is expected that the trading prices of the units will fluctuate
in accordance
with the changes in USNG’s NAV, the prices of units may also be influenced by
other factors, including the short-term supply and demand for
natural gas and
the units. There is no guarantee that the units will not trade
at appreciable
discounts from, and/or premiums to, USNG’s NAV. This could cause the changes in
the price of the units to substantially vary from the changes
in the price of
natural gas. This may be harmful to investors because if changes
in the price of
units vary substantially from changes in the Benchmark Futures
Contract or the
spot price of natural gas, then investors may not be able to
effectively use
USNG as a way to hedge the risk of losses in their natural
gas-related
transactions or as a way to indirectly invest in natural
gas.
33
Changes
in USNG’s NAV may not correlate with changes in the price of the Benchmark
Futures Contract. If this were to occur, investors may not be able
to
effectively use USNG as a way to hedge against natural gas-related
losses or as
a way to indirectly invest in natural gas.
The
General Partner endeavors to invest USNG’s assets as fully as possible in
short-term Futures Contracts and Other Natural Gas-Related Investments
so that
the changes in percentage terms in the NAV closely correlates with
the changes
in percentage terms in the price of the Benchmark Futures Contract.
However,
changes in USNG’s NAV may not correlate with the changes in the price of the
Benchmark Futures Contract for several reasons as set forth below:
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USNG
(i) may not be able to buy/sell the exact amount of Futures
Contracts and
Other Natural Gas-Related Investments to have a perfect
correlation with
NAV; (ii) may not always be able to buy and sell Futures
Contracts or
Other Natural Gas-Related Investments at the market price;
(iii) may not
experience a perfect correlation between the spot price
of natural gas and
the underlying investments in Futures Contracts, Other
Natural Gas-Related
Investments and Treasuries, cash and cash equivalents;
and (iv) is
required to pay fees, including the brokerage fees and
the management fee,
which will have an effect on the
correlation.
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Short-term
supply and demand for natural gas may cause the changes
in the market
price of the Benchmark Futures Contract to vary from
changes in USNG’s NAV
if USNG has fully invested in Futures Contracts that
do not reflect such
supply and demand and it is unable to replace such contracts
with Futures
Contracts that do reflect such supply and demand. In
addition, there are
also technical differences between the two markets, e.g.,
one is a physical
market while the other is a futures market traded on
exchanges, that may
cause variations between the spot price of natural gas
and the prices of
related futures contracts.
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USNG
plans to buy only as many Futures Contracts and Other
Natural Gas-Related
Investments that it can to get the changes in percentage
terms of the NAV
as close as possible to the changes in percentage terms
in the price of
the Benchmark Futures Contract. The remainder of its
assets will be
invested in Treasuries, cash and cash equivalents and
will be used to
satisfy initial margin and additional margin requirements,
if any, and to
otherwise support its investments in Natural Gas Interests.
Investments in
Treasuries, cash and cash equivalents, both directly
and as margin, will
provide rates of return that will vary from changes in
the value of the
spot price of natural gas and the price of the Benchmark
Futures
Contract.
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In
addition, because USNG will incur certain expenses in
connection with its
investment activities, and will hold most of its assets
in more liquid
short-term securities for margin and other liquidity
purposes and for
redemptions that may be necessary on an ongoing basis,
the General Partner
will not be able to fully invest USNG’s assets in Futures Contracts or
Other Natural Gas-Related Investments and there cannot
be perfect
correlation between changes in USNG’s NAV and changes in the price of the
Benchmark Futures Contract.
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As
USNG grows, there may be more or less correlation. For
example, if USNG
only has enough money to buy three Benchmark Futures
Contracts and it
needs to buy four contracts to track the price of natural
gas then the
correlation will be lower, but if it buys 20,000 Benchmark
Futures
Contracts and it needs to buy 20,001 contracts then the
correlation will
be higher. At certain asset levels, USNG may be limited
in its ability to
purchase the Benchmark Futures Contract or other Futures
Contracts due to
accountability levels imposed by the relevant exchanges.
To the extent
that USNG invests in these other Futures Contracts or
Other Natural
Gas-Related Investments, the correlation with the Benchmark
Futures
Contract may be lower. If USNG is required to invest
in other Futures
Contracts and Other Natural Gas-Related Investments that
are less
correlated with the Benchmark Futures Contract, USNG
would likely invest
in over-the-counter contracts to increase the level of
correlation of
USNG’s assets. Over-the-counter contracts entail certain risks
described
below under “Over-the-Counter Contract
Risk.”
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USNG
may not be able to buy the exact number of Futures Contracts
and Other
Natural Gas-Related Investments to have a perfect correlation
with the
Benchmark Futures Contract if the purchase price of Futures
Contracts
required to be fully invested in such contracts is higher
than the
proceeds received for the sale of a Creation Basket on
the day the basket
was sold. In such case, USNG could not invest the entire
proceeds from the
purchase of the Creation Basket in such futures contracts
(for example,
assume USNG receives $4,000,000 for the sale of a Creation
Basket and
assume that the price of a Futures Contract for natural
gas is $59,950,
then USNG could only invest in only 66 Futures Contracts
with an aggregate
value of $3,956,700), USNG would be required to invest
a percentage of the
proceeds in Treasuries to be deposited as margin with
the futures
commission merchant through which the contract was purchased.
The
remainder of the purchase price for the Creation Basket
would remain
invested in Treasuries, cash and/or cash equivalents as determined
by
the General Partner from time to time based on factors
such as potential
calls for margin or anticipated redemptions. If the trading
market for
Futures Contracts is suspended or closed, USNG may not
be able to purchase
these investments at the last reported price for such
investments.
|
If
changes in USNG’s NAV do not correlate with changes in the price of the
Benchmark Futures Contract, then investing in USNG may not be an
effective way
to hedge against natural gas-related losses or indirectly invest
in natural
gas.
The
Benchmark Futures Contract may not correlate with the price of
natural gas and
this could cause the changes in the price of the units to substantially
vary
from the changes in the spot price of natural gas. If this were
to occur, then
investors may not be able to effectively use USNG as a way to hedge
against
natural gas-related losses or as a way to indirectly invest in
natural
gas.
When
using the Benchmark Futures Contract as a strategy to track the
spot price of
natural gas, at best the correlation between changes in prices
of such Natural
Gas Interests and the delivery price of natural gas can be only
approximate. The
degree of imperfection of correlation depends upon circumstances
such as
variations in the speculative natural gas market, supply of and
demand for such
Natural Gas Interests and technical influences in futures trading.
If there is a
weak correlation between the Natural Gas Interests and the spot
price of natural
gas, then the price of units may not accurately track the spot
price of natural
gas and investors may not be able to effectively use USNG as a
way to hedge the
risk of losses in their natural gas-related transactions or as
a way to
indirectly invest in natural gas.
34
USNG
may experience a loss if it is required to sell Treasuries at a price
lower than
the price at which they were acquired.
The
value
of Treasuries generally moves inversely with movements in interest
rates. If
USNG is required to sell Treasuries at a price lower than the price
at which
they were acquired, USNG will experience a loss. This loss may
adversely impact
the price of the units and may decrease the correlation between
the price of the
units, the price of USNG’s Futures Contracts and Other Natural Gas-Related
Investments, and the delivery price of natural gas.
Certain
of USNG’s investments could be illiquid which could cause large losses
to
investors at any time or from time to time.
USNG
may
not always be able to liquidate its positions in its investments
at the desired
price. It is difficult to execute a trade at a specific price when
there is a
relatively small volume of buy and sell orders in a market. A market
disruption,
such as a foreign government taking political actions that disrupt
the market in
its currency, its natural gas production or exports, or in another
major export,
can also make it difficult to liquidate a position. Alternatively,
limits
imposed by futures exchanges or other regulatory organizations,
such as
accountability levels, position limits and price fluctuation limits,
may
contribute to a lack of liquidity with respect to some commodity
interests.
Unexpected
market illiquidity may cause major losses to investors at any time
or from time
to time. In addition, USNG does not intend at this time to establish
a credit
facility, which would provide an additional source of liquidity
and instead will
rely only on the Treasuries, cash and/or cash equivalents that
it holds. The
anticipated large value of the positions in Futures Contracts that
the General
Partner will acquire or enter into for USNG increases the risk
of illiquidity.
Other Natural Gas-Related Investments that USNG invests in, such
as negotiated
over-the-counter contracts, may have a greater likelihood of being
illiquid
since they are contracts between two parties that take into account
not only
market risk, but also the relative credit, tax, and settlement
risks under such
contracts. Such contracts also have limited transferability that
results from
such risks and from the contract’s express limitations.
Because
both Futures Contracts and Other Natural Gas-Related Investments
may be
illiquid, USNG’s Natural Gas Interests may be more difficult to liquidate at
favorable prices in periods of illiquid markets and losses may
be incurred
during the period in which positions are being liquidated.
If
the nature of hedgors and speculators in futures markets has shifted
such that
natural gas purchasers are the predominant hedgors in the market,
USNG might
have to reinvest at higher futures prices or choose Other Natural
Gas-Related
Investments.
The
changing nature of the hedgors and speculators in the natural gas
market will
influence whether futures prices are above or below the expected
future spot
price. In order to induce speculators to take the corresponding
long side of the
same futures contract, natural gas producers must generally be
willing to sell
futures contracts at prices that are below expected future spot
prices.
Conversely, if the predominant hedgors in the futures market are
the purchasers
of the natural gas who purchase futures contracts to hedge against
a rise in
prices, then speculators will only take the short side of the futures
contract
if the futures price is greater than the expected future spot price
of natural
gas. This can have significant implications for USNG when it is
time to reinvest
the proceeds from a maturing Futures Contract into a new Futures
Contract.
While
USNG does not intend to take physical delivery of natural gas under
Futures
Contracts, physical delivery under such contracts impacts the value
of the
contracts.
While
it
is not the current intention of USNG to take physical delivery
of natural gas
under its Futures Contracts, futures contracts are not required
to be
cash-settled and it is possible to take delivery under these contracts.
Storage
costs associated with purchasing natural gas could result in costs
and other
liabilities that could impact the value of Futures Contracts or
Other Natural
Gas-Related Investments. Storage costs include the time value of
money invested
in natural gas as a physical commodity plus the actual costs of
storing the
natural gas less any benefits from ownership of natural gas that
are not
obtained by the holder of a futures contract. In general, Futures
Contracts have
a one-month delay for contract delivery and the back month (the
back month is
any future delivery month other than the spot month) includes storage
costs. To
the extent that these storage costs change for natural gas while
USNG holds
Futures Contracts or Other Natural
Gas-Related Investments, the value of the Futures Contracts or
Other Natural
Gas-Related Investments, and therefore USNG’s NAV, may change as
well.
35
The
price relationship between the near month contract and the next
month contract
that compose the Benchmark Futures Contract will vary and may
impact both the
total return over time of USNG’s NAV, as well as the degree to which its total
return tracks other natural gas price indices’ total returns.
The
design of USNG’s Benchmark Futures Contract is such that every month it begins
by using the near month contract to expire until the near month
contract is
within two weeks of expiration, when it will use the next month
contract to
expire as its benchmark contract and keeps that contract as
its benchmark until
it becomes the near month contract and close to expiration.
In the event of a
natural gas futures market where near month contracts trade
at a higher price
than next month to expire contracts, a situation described
as “backwardation” in
the futures market, then absent the impact of the overall movement
in natural
gas prices the value of the benchmark contract would tend to
rise as it
approaches expiration. As a result the total return of the
Benchmark Futures
Contract would tend to track higher. Conversely, in the event
of a natural gas
futures market where near month contracts trade at a lower
price than next to
near month contracts, a situation described as “contango” in the futures market,
then absent the impact of the overall movement in natural gas
prices the value
of the benchmark contract would tend to decline as it approaches
expiration. As
a result the total return of the Benchmark Futures Contract
would tend to track
lower. When compared to total return of other price indices,
such as the spot
price of natural gas, the impact of backwardation and contango
may lead the
total return of USNG’s NAV to vary significantly. In the event of a prolonged
period of contango, and absent the impact of rising or falling
natural gas
prices, this could have a significant negative impact on USNG’s NAV and total
return.
Regulation
of the commodity interests and energy markets is extensive
and constantly
changing; future regulatory developments are impossible to
predict but may
significantly and adversely affect USNG.
The
regulation of commodity interest transactions in the United
States is a rapidly
changing area of law and is subject to ongoing modification
by governmental and
judicial action. In addition, various national governments
have expressed
concern regarding the disruptive effects of speculative trading
in the energy
markets and the need to regulate the derivatives markets in
general. The effect
of any future regulatory change on USNG is impossible to predict,
but could be
substantial and adverse.
Investing
in USNG for purposes of hedging may be subject to several risks
including the
possibility of losing the benefit of favorable market movement.
Participants
in the natural gas or in other industries may use USNG as a
vehicle to hedge the
risk of losses in their natural gas-related transactions. There
are several
risks in connection with using USNG as a hedging device. While
hedging can
provide protection against an adverse movement in market prices,
it can also
preclude a hedgor’s opportunity to benefit from a favorable market movement.
In
a hedging transaction, the hedgor may be concerned that the
hedged item will
increase in price, but must recognize the risk that the price
may instead
decline and if this happens he will have lost his opportunity
to profit from the
change in price because the hedging transaction will result
in a loss rather
than a gain. Thus, the hedgor foregoes the opportunity to profit
from favorable
price movements.
In
addition, if the hedge is not a perfect one, the hedgor can
lose on the hedging
transaction and not realize an offsetting gain in the value
of the underlying
item being hedged.
When
using futures contracts as a hedging technique, at best, the
correlation between
changes in prices of futures contracts and of the items being
hedged can be only
approximate. The degree of imperfection of correlation depends
upon
circumstances such as: variations in speculative markets, demand
for futures and
for natural gas products, technical influences in futures trading,
and
differences between anticipated energy costs being hedged and
the instruments
underlying the standard futures contracts available for trading.
Even a
well-conceived hedge may be unsuccessful to some degree because
of unexpected
market behavior as well as the expenses associated with creating
the
hedge.
36
In
addition, using an investment in USNG as a hedge for changes
in energy costs
(e.g., investing
in
natural gas, crude oil, gasoline, or other fuels, or electricity)
may not
correlate because changes in the spot price of natural gas may
vary from changes
in energy costs because the spot price of natural gas may not
be at the same
rate as changes in the price of other energy products and, in
any case, the
price of natural gas does not reflect the refining, transportation,
and other
costs that may impact the hedgor’s energy costs.
An
investment in USNG may provide little or no diversification
benefits. Thus, in a
declining market, USNG may have no gains to offset losses from
other
investments, and an investor may suffer losses on its investment
in USNG while
incurring losses with respect to other asset classes.
Historically,
Futures Contracts and Other Natural Gas-Related Investments
have generally been
non-correlated to the performance of other asset classes such
as stocks and
bonds. Non-correlation means that there is a low statistically
valid
relationship between the performance of futures and other commodity
interest
transactions, on the one hand, and stocks or bonds, on the
other hand. However,
there can be no assurance that such non-correlation will continue
during future
periods. If, contrary to historic patterns, USNG’s performance were to move in
the same general direction as the financial markets, investors
will obtain
little or no diversification benefits from an investment in
the units. In such a
case, USNG may have no gains to offset losses from other investments,
and
investors may suffer losses on their investment in USNG at
the same time they
incur losses with respect to other investments.
Variables
such as drought, floods, weather, embargoes, tariffs and other
political events
may have a larger impact on natural gas prices and natural
gas-linked
instruments, including Futures Contracts and Other Natural
Gas-Related
Investments, than on traditional securities. These additional
variables may
create additional investment risks that subject USNG’s investments to greater
volatility than investments in traditional securities.
Non-correlation
should not be confused with negative correlation, where the
performance of two
asset classes would be opposite of each other. There is no
historic evidence
that the spot price of natural gas and prices of other financial
assets, such as
stocks and bonds, are negatively correlated. In the absence
of negative
correlation, USNG cannot be expected to be automatically profitable
during
unfavorable periods for the stock market, or vice versa.
USNG’s
Operating Risks
USNG
is not a registered investment company so unitholders do not
have the
protections of the 1940 Act.
USNG
is
not an investment company subject to the 1940 Act. Accordingly,
investors do not
have the protections afforded by that statute which, for example,
requires
investment companies to have a majority of disinterested directors
and regulates
the relationship between the investment company and its investment
manager.
The
General Partner is leanly staffed and relies heavily on key
personnel to manage
trading activities.
In
managing and directing the day-to-day activities and affairs
of USNG, the
General Partner relies heavily on Messrs. Nicholas Gerber, John Love
and John Hyland. If Messrs. Gerber, Love or Hyland were to leave or be
unable to carry out their present responsibilities, it may
have an adverse
effect on the management of USNG. Furthermore, Messrs. Gerber,
Love and Hyland
are currently involved in the management of USOF, US12OF and
USG, and the
General Partner is currently in the process of registering
two other exchange
traded securities, USHO and US12NG. Messrs. Gerber and Love are
also employed by Ameristock Corporation, a registered investment
adviser that
manages a public mutual fund. It is estimated that Mr. Gerber
will spend
approximately 50% of his time on USOF, USNG, USHO, USG, US12OF
and US12NG
matters. Mr. Love will spend approximately 95% of his time
on USOF, USNG, USHO,
USG, US12OF and US12NG matters and Mr. Hyland will spend approximately
75% of
his time on USOF, USNG, USHO, USG, US12OF and US12NG matters.
To the extent that
the General Partner establishes additional funds, even greater
demands will be
placed on Messrs. Gerber, Love and Hyland, as well as the other officers of
the General Partner, including Mr. Mah, the Chief Financial
Officer, and its
Board of Directors.
37
Accountability
levels, position limits, and daily price fluctuation limits set
by the exchanges
have the potential to cause a tracking error, which could cause
the price of
units to substantially vary from the price of the Benchmark Futures
Contract and
prevent investors from being able to effectively use USNG as a
way to hedge
against natural gas-related losses or as a way to indirectly invest
in natural
gas.
U.S.
designated contract markets such as the NYMEX have established
accountability
levels and position limits on the maximum net long or net short
futures
contracts in commodity interests that any person or group of
persons under
common trading control (other than as a hedge, which an investment
in USNG is
not) may hold, own or control. For example, the current accountability
level for
investments at any one time in the Benchmark Futures Contract is 12,000.
While this is not a fixed ceiling, it is a threshold above which
the NYMEX may
exercise greater scrutiny and control over an investor, including
limiting an
investor to holding no more than 12,000 Benchmark Futures Contracts.
With regard
to position limits, the NYMEX limits an investor from holding
more than 1,000
net futures in the last 3 days of trading in the near month contract
to
expire.
In
addition to accountability levels and position limits, the NYMEX
also sets daily
price fluctuation limits on the Futures Contracts. The daily
price fluctuation
limit establishes the maximum amount that the price of a futures
contract may
vary either up or down from the previous day’s settlement price. Once the daily
price fluctuation limit has been reached in a particular Futures
Contract, no
trades may be made at a price beyond that limit.
For
example, the NYMEX imposes a $3.00 per mmBtu ($30,000 per contract)
price
fluctuation limit for the Benchmark Futures Contracts. This limit
is initially
based off of the previous trading day’s settlement price. If any Benchmark
Futures Contract is traded, bid, or offered at the limit for
five minutes,
trading is halted for five minutes. When trading resumes it begins
at the point
where the limit was imposed and the limit is reset to be $3.00
per mmBtu in
either direction of that point. If another halt were triggered,
the market would
continue to be expanded by $3.00 per mmBtu in either direction
after each
successive five-minute trading halt. There is no maximum price
fluctuation limit
during any one trading session.
All
of
these limits may potentially cause a tracking error between the
price of the
units and the price of the Benchmark Futures Contract. This may
in turn prevent
investors from being able to effectively use USNG as a way to
hedge against
natural gas-related losses or as a way to indirectly invest in
natural
gas.
USNG
is
not limiting the size of the offering and is committed to utilizing
substantially all of its proceeds to purchase Futures Contracts
and Other
Natural Gas-Related Investments. If USNG encounters accountability
levels,
position limits, or price fluctuation limits for natural gas
contracts on the
NYMEX, it may then, if permitted under applicable regulatory
requirements,
purchase Futures Contracts on the ICE Futures (formerly, the
International
Petroleum Exchange) or other exchanges that trade listed natural
gas futures.
The Futures Contracts available on the ICE Futures are comparable
to the
contracts on the NYMEX, but they may have different underlying
commodities,
sizes, deliveries, and prices.
There
are technical and fundamental risks inherent in the trading system
the General
Partner intends to employ.
38
USNG
and the General Partner may have conflicts of interest, which
may permit them to
favor their own interests to the detriment of unitholders.
USNG
and
the General Partner may have inherent conflicts to the extent
the General
Partner attempts to maintain USNG’s asset size in order to preserve its fee
income and this may not always be consistent with USNG’s objective of having the
value of its unit’s NAV track changes in the Benchmark Futures Contract. The
General Partner’s officers, directors and employees do not devote their time
exclusively to USNG. These persons are directors, officers
or employees of other
entities that may compete with USNG for their services. They
could have a
conflict between their responsibilities to USNG and to those
other
entities.
In
addition, the General Partner’s principals, officers, directors or employees may
trade futures and related contracts for their own account.
A conflict of
interest may exist if their trades are in the same markets
and at the same time
as USNG trades using the clearing broker to be used by USNG.
A potential
conflict also may occur if the General Partner’s principals, officers, directors
or employees trade their accounts more aggressively or take
positions in their
accounts which are opposite, or ahead of, the positions taken
by
USNG.
The
General Partner has sole current authority to manage the investments
and
operations of USNG, and this may allow it to act in a way that
furthers its own
interests which may create a conflict with the best interests
of investors.
Limited partners have limited voting control, which will limit
the ability to
influence matters such as amendment of the LP Agreement, change
in USNG’s basic
investment policy, dissolution of this fund, or the sale or
distribution of
USNG’s assets.
The
General Partner serves as the general partner to each of USG, USOF, US12OF,
USHO and US12NG, as well as USNG. The General Partner may have
a conflict to the
extent that its trading decisions for USNG may be influenced
by the effect they
would have on the other funds it manages. These trading decisions
may be
influenced since the General Partner also serves as the general
partner for all
of the funds and is required to meet all of the funds’ investment objectives as
well as USNG’s. If the General Partner believes that a trading decision
it made
on behalf of USNG might (i) impede its other funds from reaching
their
investment objectives, or (ii) improve the likelihood of meeting
its other
funds’ objectives, then the General Partner may choose to change its
trading
decision for USNG, which could either impede or improve the
opportunity for USNG
from meeting its investment objective. In addition, the General
Partner is
required to indemnify the officers and directors of its other
funds if the need
for indemnification arises. This potential indemnification
will cause the
General Partner’s assets to decrease. If the General Partner’s other sources of
income are not sufficient to compensate for the indemnification,
then the
General Partner may terminate and investors could lose their
investment.
Unitholders
may only vote on the removal of the General Partner and limited
partners have
only limited voting rights. Unitholders and limited partners
will not
participate in the management of USNG and do not control the
General Partner so
they will not have influence over basic matters that affect
USNG.
Unitholders
that have not applied to become limited partners have no voting
rights, other
than to remove the General Partner. Limited partners will have
limited voting
rights with respect to USNG’s affairs. Unitholders may remove the General
Partner only if 66 2/3% of the unitholders elect to do so.
Unitholders and
limited partners will not be permitted to participate in the
management or
control of USNG or the conduct of its business. Unitholders
and limited partners
must therefore rely upon the duties and judgment of the General
Partner to
manage USNG’s affairs.
39
The
General Partner may manage a large amount of assets and this
could affect USNG’s
ability to trade profitably.
Increases
in assets under management may affect trading decisions. In
general, the General
Partner does not intend to limit the amount of assets of USNG
that it may
manage. The more assets the General Partner manages, the more
difficult it may
be for it to trade profitably because of the difficulty of
trading larger
positions without adversely affecting prices and performance
and of managing
risk associated with larger positions.
USNG
could terminate at any time and cause the liquidation and potential
loss of an
investor’s investment and could upset the overall maturity and timing
of an
investor’s investment portfolio.
USNG
may
terminate at any time, regardless of whether USNG has incurred
losses, subject
to the terms of the LP Agreement. In particular, unforeseen
circumstances,
including the death, adjudication of incompetence, bankruptcy,
dissolution, or
removal of the General Partner could cause USNG to terminate
unless a majority
interest of the limited partners within 90 days of the event
elects to continue
the partnership and appoints a successor general partner, or
the affirmative
vote of a majority interest of the limited partners subject
to conditions.
However, no level of losses will require the General Partner
to terminate USNG.
USNG’s termination would cause the liquidation and potential loss
of an
investor’s investment. Termination could also negatively affect the
overall
maturity and timing of an investor’s investment portfolio.
Limited
partners may not have limited liability in certain circumstances,
including
potentially having liability for the return of wrongful
distributions.
Under
Delaware law, a limited partner might be held liable for our
obligations as if
it were a General Partner if the limited partner participates
in the control of
the partnership’s business and the persons who transact business with the
partnership think the limited partner is the General Partner.
A
limited
partner will not be liable for assessments in addition to its
initial capital
investment in any of our capital securities representing limited
partnership
interests. However, a limited partner may be required to repay
to us any amounts
wrongfully returned or distributed to it under some circumstances.
Under
Delaware law, USNG may not make a distribution to limited partners
if the
distribution causes our liabilities (other than liabilities
to partners on
account of their partnership interests and nonrecourse liabilities)
to exceed
the fair value of our assets. Delaware law provides that a
limited partner who
receives such a distribution and knew at the time of the distribution
that the
distribution violated the law will be liable to the limited
partnership for the
amount of the distribution for three years from the date of
the
distribution.
With
adequate notice, a limited partner may be required to withdraw
from the
partnership for any reason.
If
the
General Partner gives at least fifteen (15) days’ written notice to a limited
partner, then the General Partner may for any reason, in its
sole discretion,
require any such limited partner to withdraw entirely from
the partnership or to
withdraw a portion of its partner capital account. The General
Partner may
require withdrawal even in situations where the limited partner
has complied
completely with the provisions of the LP Agreement.
40
USNG’s
existing units are, and any units USNG issues in the future will
be, subject to
restrictions on transfer. Failure to satisfy these requirements
will preclude a
transferee from being able to have all the rights of a limited
partner.
No
transfer of any unit or interest therein may be made if such
transfer would (a)
violate the then applicable federal or state securities laws
or rules and
regulations of the SEC, any state securities commission, the
CFTC or any other
governmental authority with jurisdiction over such transfer,
or (b) cause USNG
to be taxable as a corporation or affect USNG’s existence or qualification as a
limited partnership. In addition, investors may only become
limited partners if
they transfer their units to purchasers that meet certain conditions
outlined in
the LP Agreement, which provides that each record holder or
limited partner or
unitholder applying to become a limited partner (each a record
holder) may be
required by the General Partner to furnish certain information,
including that
holder’s nationality, citizenship or other related status. A transferee
who is
not a U.S. resident may not be eligible to become a record
holder or a limited
partner if its ownership would subject USNG to the risk of
cancellation or
forfeiture of any of its assets under any federal, state or
local law or
regulation. All purchasers of USNG’s units, who wish to become limited partners
or record holders, and receive cash distributions, if any,
or have certain other
rights, must deliver an executed transfer application in which
the purchaser or
transferee must certify that, among other things, he, she or
it agrees to be
bound by USNG’s LP Agreement and is eligible to purchase USNG’s securities. Any
transfer of units will not be recorded by the transfer agent
or recognized by us
unless a completed transfer application is delivered to the
General Partner or
the Administrator. A person purchasing USNG’s existing units, who does not
execute a transfer application and certify that the purchaser
is eligible to
purchase those securities acquires no rights in those securities
other than the
right to resell those securities. Whether or not a transfer
application is
received or the consent of the General Partner obtained, our
units will be
securities and will be transferable according to the laws governing
transfers of
securities. See “Transfer of Units.”
USNG
does not expect to make cash distributions.
The
General Partner has not previously made any cash distributions
and intends to
re-invest any realized gains in Natural Gas Interests rather
than distributing
cash to limited partners. Therefore, unlike mutual funds, commodity
pools or
other investment pools that actively manage their investments
in an attempt to
realize income and gains from their investing activities and
distribute such
income and gains to their investors, USNG generally does not
expect to
distribute cash to limited partners. An investor should not
invest in USNG if it
will need cash distributions from USNG to pay taxes on its
share of income and
gains of USNG, if any, or for any other reason. Although USNG
does not intend to
make cash distributions, the income earned from its investments
held directly or
posted as margin may reach levels that merit distribution,
e.g., at levels where
such income is not necessary to support its underlying investments
in natural
gas interests and investors adversely react to being taxed
on such income
without receiving distributions that could be used to pay such
tax. If this
income becomes significant then cash distributions may be made.
There
is a risk that USNG will not earn trading gains sufficient
to compensate for the
fees and expenses that it must pay and as such USNG may not
earn any
profit.
USNG
pays
brokerage charges of approximately 0.17% (based on futures
commission merchant
fees of $4.00 per buy or sell, management fees of 0.60% of
NAV on the first
$1,000,000,000 of assets and 0.50% of NAV after the first $1,000,000,000
of
assets, and over-the-counter spreads and extraordinary expenses
(i.e.
expenses not in the
ordinary course of business, including the indemnification
of any person against
liabilities and obligations to the extent permitted by law
and required under
the LP Agreement and under agreements entered into by the General
Partner on
USNG’s behalf and the bringing and defending of actions at law or
in equity and
otherwise engaging in the conduct of litigation and the incurring
of legal
expenses and the settlement of claims and litigation) that
can not be
quantified. These fees and expenses must be paid in all cases
regardless of
whether USNG’s activities are profitable. Accordingly, USNG must earn trading
gains sufficient to compensate for these fees and expenses
before it can earn
any profit.
41
USNG,
historically, has depended upon its affiliates to pay all its
expenses. If this
offering of units does not raise sufficient funds to pay USNG’s future expenses
and no other source of funding of expenses is found, USNG may
be forced to
terminate and investors may lose all or part of their investment.
Prior
to
the offering of units that commenced on April 17, 2007, all
of USNG’s expenses
were funded by the General Partner and its affiliates. These
payments by the
General Partner and its affiliates were designed to allow USNG
the ability to
commence the public offering of its units. USNG now directly
pays certain of
these fees and expenses. The General Partner will continue
to pay other fees and
expenses, as set forth in the LP Agreement. If the General
Partner and USNG are
unable to raise sufficient funds to cover their expenses or
locate any other
source of funding, USNG may be forced to terminate and investors
may lose all or
part of their investment.
USNG
may incur higher fees and expenses upon renewing existing or
entering into new
contractual relationships.
The
clearing arrangements between the clearing brokers and USNG
generally are
terminable by the clearing brokers once the clearing broker
has given USNG
notice. Upon termination, the General Partner may be required
to renegotiate or
make other arrangements for obtaining similar services if USNG
intends to
continue trading in Futures Contracts or Other Natural Gas-Related
Investments
at its present level of capacity. The services of any clearing
broker may not be
available, or even if available, these services may not be
available on the
terms as favorable as those of the expired or terminated clearing
arrangements.
USNG
may miss certain trading opportunities because it will not
receive the benefit
of the expertise of independent trading advisors.
The
General Partner does not employ trading advisors for USNG;
however, it reserves
the right to employ them in the future. The only advisor to
USNG is the General
Partner. A lack of indepedent trading advisors may be disadvantageous to
USNG because it will not receive the benefit of a trading advisor’s
expertise.
An
unanticipated number of redemption requests during a short
period of time could
have an adverse effect on the NAV of USNG.
If
a
substantial number of requests for redemption of Redemption
Baskets are received
by USNG during a relatively short period of time, USNG may
not be able to
satisfy the requests from USNG’s assets not committed to trading. As a
consequence, it could be necessary to liquidate positions in
USNG’s trading
positions before the time that the trading strategies would
otherwise dictate
liquidation.
The
failure or bankruptcy of a clearing broker could result in
a substantial loss of
USNG’s assets.
Under
CFTC regulations, a clearing broker maintains customers’ assets in a bulk
segregated account. If a clearing broker fails to do so, or
is unable to satisfy
a substantial deficit in a customer account, its other customers
may be subject
to risk of substantial loss of their funds in the event of
that clearing
broker’s bankruptcy. In that event, the clearing broker’s customers, such as
USNG, are entitled to recover, even in respect of property
specifically
traceable to them, only a proportional share of all property
available for
distribution to all of that clearing broker’s customers. USNG also may be
subject to the risk of the failure of, or delay in performance
by, any exchanges
and markets and their clearing organizations, if any, on which
commodity
interest contracts are traded.
From
time
to time, the clearing brokers may be subject to legal or regulatory
proceedings
in the ordinary course of their business. A clearing broker’s involvement in
costly or time-consuming legal proceedings may divert financial
resources or
personnel away from the clearing broker’s trading operations, which could impair
the clearing broker’s ability to successfully execute and clear USNG’s
trades.
42
Third
parties may infringe upon or otherwise violate intellectual property rights
or
assert that the General Partner has infringed or otherwise violated their
intellectual property rights, which may result in significant costs and diverted
attention.
Third
parties may utilize USNG’s intellectual property or technology, including the
use of its business methods, trademarks and trading program software, without
permission. The General Partner has a patent pending for USNG’s business method
and it is registering its trademarks. USNG does not currently have any
proprietary software. However, if it obtains proprietary software in the
future,
then any unauthorized use of USNG’s proprietary software and other technology
could also adversely affect its competitive advantage. USNG may have difficulty
monitoring unauthorized uses of its patents, trademarks, proprietary software
and other technology. Also, third parties may independently develop business
methods, trademarks or proprietary software and other technology similar
to that
of the General Partner or claim that the General Partner has violated their
intellectual property rights, including their copyrights, trademark rights,
trade names, trade secrets and patent rights. As a result, the General
Partner
may have to litigate in the future to protect its trade secrets, determine
the
validity and scope of other parties’ proprietary rights, defend itself against
claims that it has infringed or otherwise violated other parties’ rights, or
defend itself against claims that its rights are invalid. Any litigation
of this
type, even if the General Partner is successful and regardless of the merits,
may result in significant costs, divert its resources from USNG, or require
it
to change its proprietary software and other technology or enter into royalty
or
licensing agreements. See “Legal Risks” below.
The
success of USNG depends on the ability of the General Partner to accurately
implement trading systems, and any failure to do so could subject USNG
to losses
on such transactions.
The
General Partner uses mathematical formulas built into a generally available
spreadsheet program to decide whether it should buy or sell Natural Gas
Interests each day. Specifically, the General Partner uses the spreadsheet
to
make mathematical calculations and to monitor positions in Natural Gas
Interests
and Treasuries and correlations to the Benchmark Futures Contract. The
General
Partner must accurately process the spreadsheets’ outputs and execute the
transactions called for by the formulas. In addition, USNG relies on the
General
Partner to properly operate and maintain its computer and communications
systems. Execution of the formulas and operation of the systems are subject
to
human error. Any failure, inaccuracy or delay in implementing any of the
formulas or systems and executing USNG’s transactions could impair its ability
to achieve USNG’s investment objective. It could also result in decisions to
undertake transactions based on inaccurate or incomplete information. This
could
cause substantial losses on transactions.
USNG
may experience substantial losses on transactions if the computer or
communications system fails.
USNG’s
trading activities, including its risk management, depend on the integrity
and
performance of the computer and communications systems supporting them.
Extraordinary transaction volume, hardware or software failure, power or
telecommunications failure, a natural disaster or other catastrophe could
cause
the computer systems to operate at an unacceptably slow speed or even fail.
Any
significant degradation or failure of the systems that the General Partner
uses
to gather and analyze information, enter orders, process data, monitor
risk
levels and otherwise engage in trading activities may result in substantial
losses on transactions, liability to other parties, lost profit opportunities,
damages to the General Partner’s and USNG’s reputations, increased operational
expenses and diversion of technical resources.
If
the computer and communications systems are not upgraded, USNG’s financial
condition could be harmed.
The
development of complex computer and communications systems and new technologies
may render the existing computer and communications systems supporting
USNG’s
trading activities obsolete. In addition, these computer and communications
systems must be compatible with those of third parties, such as the systems
of
exchanges, clearing brokers and the executing brokers. As a result, if
these
third parties upgrade their systems, the General Partner will need to make
corresponding upgrades to continue effectively its trading activities.
USNG’s
future success will depend on USNG’s ability to respond to changing technologies
on a timely and cost-effective basis.
43
USNG
depends on the reliable performance of the computer and communications
systems
of third parties, such as brokers and futures exchanges, and may experience
substantial losses on transactions if they fail.
USNG
depends on the proper and timely function of complex computer and communications
systems maintained and operated by the futures exchanges, brokers and
other data
providers that the General Partner uses to conduct trading activities.
Failure
or inadequate performance of any of these systems could adversely affect
the
General Partner’s ability to complete transactions, including its ability to
close out positions, and result in lost profit opportunities and significant
losses on commodity interest transactions. This could have a material
adverse
effect on revenues and materially reduce USNG’s available capital. For example,
unavailability of price quotations from third parties may make it difficult
or
impossible for the General Partner to use its proprietary software that
it
relies upon to conduct its trading activities. Unavailability of records
from
brokerage firms may make it difficult or impossible for the General Partner
to
accurately determine which transactions have been executed or the details,
including price and time, of any transaction executed. This unavailability
of
information also may make it difficult or impossible for the General
Partner to
reconcile its records of transactions with those of another party or
to
accomplish settlement of executed transactions.
The
occurrence of a terrorist attack, or the outbreak, continuation or expansion
of
war or other hostilities could disrupt USNG’s trading activity and materially
affect USNG’s profitability.
The
operations of USNG, the exchanges, brokers and counterparties with which
USNG
does business, and the markets in which USNG does business could be severely
disrupted in the event of a major terrorist attack or the outbreak, continuation
or expansion of war or other hostilities. The terrorist attacks of September
11,
2001 and the war in Iraq, global anti-terrorism initiatives and political
unrest
in the Middle East and Southeast Asia continue to fuel this
concern.
Risk
of Leverage and Volatility
If
the General Partner permits USNG to become leveraged, investors could
lose all
or substantially all of their investment if USNG’s trading positions suddenly
turn unprofitable.
Commodity
pools’ trading positions in futures contracts or other commodity interests are
typically required to be secured by the deposit of margin funds that
represent
only a small percentage of a futures contract’s (or other commodity interests’)
entire face value. This feature permits commodity pools to “leverage” their
assets by purchasing or selling futures contracts (or other commodity
interests)
with an aggregate value in excess of the commodity pool’s assets. While this
leverage can increase the pool’s profits, relatively small adverse movements in
the price of the pool’s futures contracts can cause significant losses to the
pool. While the General Partner has not and does not intend to leverage
USNG’s
assets, it is not prohibited from doing so under the LP Agreement or
otherwise.
44
The
price of natural gas is volatile which could cause large fluctuations
in the
price of units.
Movements
in the price of natural gas may be the result of factors outside of
the General
Partner’s control and may not be anticipated by the General Partner. Among
the
factors that can cause volatility in the price of natural gas are:
|
•
|
worldwide
or regional demand for energy, which is affected by economic
conditions;
|
|
•
|
the
domestic and foreign supply and inventories of oil and
gas;
|
|
•
|
weather
conditions, including abnormally mild winter or summer weather,
and
abnormally harsh winter or summer
weather;
|
|
•
|
availability
and adequacy of pipeline and other transportation
facilities;
|
|
•
|
domestic
and foreign governmental regulations and
taxes;
|
|
•
|
political
conditions in gas or oil producing
regions;
|
|
•
|
the
ability of members of OPEC to agree upon and maintain oil
prices and
production levels;
|
|
•
|
the
price and availability of alternative fuels; and
|
|
|
•
|
the
impact of energy conservation
efforts.
|
The
impact of environmental and other governmental laws and regulations
that may
affect the price of natural gas.
Environmental
and other governmental laws and regulations have increased the costs
to plan,
design, drill, install, operate and abandon natural gas and oil wells.
Other
laws have prevented exploration and drilling of natural gas in certain
environmentally sensitive federal lands and waters. Several environmental
laws
that have a direct or an indirect impact on the price of natural gas
include,
but are not limited to, the Clean Air Act, Clean Water Act, Resource
Conservation and Recovery Act, and the Comprehensive Environmental
Response,
Compensation and Liability Act of 1980.
The
limited method for transporting and storing natural gas may cause the
price of
natural gas to increase.
Natural
gas is primarily transported and stored throughout the United States
by way of
pipeline and underground storage facilities. These systems may not
be adequate
to meet demand, especially in times of peak demand or in areas of the
United
States where gas service is already limited due to minimal pipeline
and storage
infrastructure. As a result of the limited method for transporting
and storing
natural gas, the price of natural gas may increase.
Over-the-Counter
Contract Risk
Over-the-counter
transactions are subject to little, if any, regulation.
A
portion
of USNG’s assets may be used to trade over-the-counter natural gas interest
contracts, such as forward contracts or swap or spot contracts. Over-the-counter
contracts are typically traded on a principal-to-principal basis through
dealer
markets that are dominated by major money center and investment banks
and other
institutions and are essentially unregulated by the CFTC. Investors
therefore do
not receive the protection of CFTC regulation or the statutory scheme
of the CEA
in connection with this trading activity by USNG. The markets for
over-the-counter contracts rely upon the integrity of market participants
in
lieu of the additional regulation imposed by the CFTC on participants
in the
futures markets. The lack of regulation in these markets could expose
USNG in
certain circumstances to significant losses in the event of trading
abuses or
financial failure by participants.
45
USNG
will be subject to credit risk with respect to counterparties to
over-the-counter contracts entered into by USNG or held by special purpose
or
structured vehicles.
USNG
also
faces the risk of non-performance by the counterparties to the over-the-counter
contracts. Unlike in futures contracts, the counterparty to these contracts
is
generally a single bank or other financial institution, rather than
a clearing
organization backed by a group of financial institutions. As a result,
there
will be greater counterparty credit risk in these transactions. A counterparty
may not be able to meet its obligations to USNG, in which case USNG
could suffer
significant losses on these contracts.
If
a
counterparty becomes bankrupt or otherwise fails to perform its obligations
due
to financial difficulties, USNG may experience significant delays in
obtaining
any recovery in a bankruptcy or other reorganization proceeding. USNG
may obtain
only limited recovery or may obtain no recovery in such
circumstances.
USNG
may be subject to liquidity risk with respect to its over-the-counter
contracts.
Over-the-counter
contracts may have terms that make them less marketable than Futures
Contracts.
Over-the-counter contracts are less marketable because they are not
traded on an
exchange, do not have uniform terms and conditions, and are entered
into based
upon the creditworthiness of the parties and the availability of credit
support,
such as collateral, and in general, they are not transferable without
the
consent of the counterparty. These conditions diminish the ability
to realize
the full value of such contracts.
Risk
of Trading in International Markets
Trading
in international markets could expose USNG to credit and regulatory
risk.
The
General Partner invests primarily in Futures Contracts, a significant
portion of
which are traded on United States exchanges including the NYMEX. However,
a
portion of USNG’s trades may take place on markets and exchanges outside the
United States. Some non-U.S. markets present risks because they are
not subject
to the same degree of regulation as their U.S. counterparts. None of
the CFTC,
NFA, or any domestic exchange regulates activities of any foreign boards
of
trade or exchanges, including the execution, delivery and clearing
of
transactions, nor has the power to compel enforcement of the rules
of a foreign
board of trade or exchange or of any applicable non-U.S. laws. Similarly,
the
rights of market participants, such as USNG, in the event of the insolvency
or
bankruptcy of a non-U.S. market or broker are also likely to be more
limited
than in the case of U.S. markets or brokers. As a result, in these
markets, USNG
has less legal and regulatory protection than it does when it trades
domestically.
In
some
of these non-U.S. markets, the performance on a contract is the responsibility
of the counterparty and is not backed by an exchange or clearing corporation
and
therefore exposes USNG to credit risk. Trading in non-U.S. markets
also leaves
USNG susceptible to swings in the value of the local currency against
the U.S.
dollar. Additionally, trading on non-U.S. exchanges is subject to the
risks
presented by exchange controls, expropriation, increased tax burdens
and
exposure to local economic declines and political instability. An adverse
development with respect to any of these variables could reduce the
profit or
increase the loss earned on trades in the affected international
markets.
International
trading activities subject USNG to foreign exchange risk.
The
price
of any non-U.S. Futures Contract, option on any non-U.S. Futures Contract
or
other non-U.S. Natural Gas-Related Investment, and, therefore, the
potential
profit and loss on such Natural Gas Interests, may be affected by any
variance
in the foreign exchange rate between the time the order is placed and
the time
it is liquidated, offset or exercised. As a result, changes in the
value of the
local currency relative to the U.S. dollar may cause losses to USNG
even if the
contract traded is profitable.
USNG’s
international trading would expose it to losses resulting from non-U.S.
exchanges that are less developed or less reliable than United States
exchanges.
Some
non-U.S. exchanges also may be in a more developmental stage so that
prior price
histories may not be indicative of current price dynamics. In addition,
USNG may
not have the same access to certain positions on foreign trading exchanges
as do
local traders, and the historical market data on which the General
Partner bases
its strategies may not be as reliable or accessible as it is for U.S.
exchanges.
46
Tax
Risk
An
investor’s tax liability may exceed the amount of distributions, if any, on
its units.
Cash
or
property will be distributed at the sole discretion of the General
Partner. The
General Partner has not and does not intend to make cash or other distributions
with respect to units. Investors will be required to pay U.S. federal
income tax and, in some cases, state, local, or foreign income tax,
on their
allocable share of USNG’s taxable income, without regard to whether they receive
distributions or the amount of any distributions. Therefore, tax liability
of an
investor with respect to its units may exceed the amount of cash or
value of
property (if any) distributed.
An
investor’s allocable share of taxable income or loss may differ from its
economic income or loss on its units.
Due
to
the application of the assumptions and conventions applied by USNG
in making
allocations for tax purposes and other factors, an investor’s allocable share of
USNG’s income, gain, deduction or loss may be different than its economic
profit
or loss from its units for a taxable year. This difference could be
temporary or
permanent and, if permanent, could result in an investor being taxed
on amounts
in excess of its economic income.
Items
of income, gain, deduction, loss and credit with respect to units could
be
reallocated if the IRS does not accept the assumptions and conventions
applied
by USNG in allocating those items, with potential adverse consequences
for an
investor.
The
U.S.
tax rules pertaining to partnerships are complex and their application
to large,
publicly traded partnerships such as USNG is in many respects uncertain.
USNG
will apply certain assumptions and conventions in an attempt to comply
with the
intent of the applicable rules and to report taxable income, gains,
deductions,
losses and credits in a manner that properly reflects unitholders’ economic
gains and losses. These assumptions and conventions may not fully comply
with
all aspects of the Internal Revenue Code (“Code”) and applicable Treasury
Regulations, however, and it is possible that the U.S. Internal Revenue
Service
will successfully challenge our allocation methods and require us to
reallocate
items of income, gain, deduction, loss or credit in a manner that adversely
affects investors. If this occurs, investors may be required to file
an amended
tax return and to pay additional taxes plus deficiency interest.
USNG
could be treated as a corporation for federal income tax purposes,
which may
substantially reduce the value of the units.
USNG
has
received an opinion of counsel that, under current U.S. federal income
tax laws,
USNG will be treated as a partnership that is not taxable as a corporation
for
U.S. federal income tax purposes, provided that (i) at least 90 percent
of
USNG’s annual gross income consists of “qualifying income” as defined in the
Code, (ii) USNG is organized and operated in accordance with its governing
agreements and applicable law and (iii) USNG does not elect to be taxed
as a
corporation for federal income tax purposes. Although the General Partner
anticipates that USNG has satisfied and will continue to satisfy the
“qualifying
income” requirement for all of its taxable years, that result cannot be assured.
USNG has not requested and will not request any ruling from the IRS
with respect
to its classification as a partnership not taxable as a corporation
for federal
income tax purposes. If the IRS were to successfully assert that USNG
is taxable
as a corporation for federal income tax purposes in any taxable year,
rather
than passing through its income, gains, losses and deductions proportionately
to
unitholders, USNG would be subject to tax on its net income for the
year at
corporate tax rates. In addition, although the General Partner does
not
currently intend to make distributions with respect to units, any distributions
would be taxable to unitholders as dividend income. Taxation of USNG
as a
corporation could materially reduce the after-tax return on an investment
in
units and could substantially reduce the value of the units.
47
Legal
Risks
An
affiliate of USNG has been notified of intellectual property rights that
could
adversely impact USNG.
Goldman
Sachs &
Co.
Goldman,
Sachs & Co. (“Goldman Sachs”) sent USOF a letter on March 17, 2006,
providing USOF and the General Partner notice under 35 U.S.C. Section
154(d) of
two pending United States patent applications, Publication Nos. 2004/0225593A1
and 2006/0036533A1. Both patent applications are generally directed to
a method
and system for creating and administering a publicly traded interest
in a
commodity pool. In particular, the Abstract of each patent application
defines a
means for creating and administering a publicly traded interest in a
commodity
pool that includes the steps of forming a commodity pool having a first
position
in a futures contract and a corresponding second position in a margin
investment, and issuing equity interests of the commodity pool to third
party
investors. Subsequently, two U.S. patents were issued; the first, patent
number
US7,283,978B2, was issued on October 16, 2007, and the second, patent
number
US7,319,984B2, was issued on January 15, 2008.
Preliminarily,
USOF's management is of the view that the structure and operations of
USOF and its affiliated commodity pools do not infringe these patents.
USOF is
also in the process of reviewing prior art (prior structures and operations
of
similar investment vehicles) that may invalidate one or more of the
claims in
these patents. In addition, USOF has retained patent counsel to advise
it on
these matters and is in the process of obtaining their opinions regarding
the
non-infringement of each of these patents by USOF and/or the patents'
invalidity
based on prior art. If the patents were alleged to apply to USOF's
structure
and/or operations, and are found by a court to be valid and infringed,
Goldman
Sachs may be awarded significant monetary damages and/or injunctive
relief.
See
“USNG's Operating Risks — Third parties may infringe upon or otherwise
violate intellectual property rights or assert that the General Partner
has
infringed or otherwise violated their intellectual property rights, which may
result in significant costs and diverted attention.”
|
Unresolved
Staff
Comments.
|
Not
applicable.
|
Properties.
|
Not
applicable.
48
|
Legal
Proceedings.
|
Although
USNG may, from time to time, be involved in litigation arising out of
its
operations in the normal course
of
business or otherwise, it is currently not a party to any pending material
legal
proceedings, except for the items noted below.
Goldman
Sachs
Goldman
Sachs sent USOF a letter on March 17, 2006, providing USOF and the
General
Partner notice under 35 U.S.C. Section 154(d) of two pending United
States
patent applications, Publication Nos. 2004/0225593A1 and 2006/0036533A1.
Both
patent applications are generally directed to a method and system
for creating
and administering a publicly traded interest in a commodity pool.
In particular,
the Abstract of each patent application defines a means for creating
and
administering a publicly traded interest in a commodity pool that
includes the
steps of forming a commodity pool having a first position in a futures
contract
and a corresponding second position in a margin investment, and issuing
equity
interests of the commodity pool to third party investors. Subsequently,
two U.S.
patents were issued; the first, patent number US7,283,978B2, was
issued on
October 16, 2007, and the second, patent number US7,319,984B2, was
issued on
January 15, 2008.
Preliminarily, USOF's
management is of the view that the structure and operations of USOF and
its
affiliated commodity pools do not infringe these patents. USOF
is also in the
process of reviewing prior art (prior structures and operations
of similar
investment vehicles) that may invalidate one or more of the claims
in these
patents. In addition, USOF has retained patent counsel to advise
it on these
matters and is in the process of obtaining their opinions regarding
the
non-infringement of each of these patents by USOF and/or the
patents' invalidity
based on prior art. If the patents were alleged to apply to USOF's
structure
and/or operations, and are found by a court to be valid and infringed,
Goldman
Sachs may be awarded significant monetary damages and/or injunctive
relief.
See
“USNG's Operating Risks — Third parties may infringe upon or otherwise
violate intellectual property rights or assert that the General
Partner has
infringed or otherwise violated their intellectual property rights,
which may
result in significant costs and diverted
attention.”
49
|
Submission
of Matters to a Vote
of Security Holders.
|
Not
applicable.
|
Market
for Registrant’s Common
Equity, Related Stockholder Matters and Issuer Purchases
of Equity
Securities.
|
Price
Range of
Units
USNG’s
units have traded on the AMEX under the symbol “UNG” since its initial
public offering on April 18, 2007. The following table sets forth
the range of
reported high and low sales prices of the units as reported on AMEX
for the
period from April 18, 2007 to December 31, 2007.
|
|
High
|
|
Low
|
|
|||
|
Fiscal
year 2007
|
|||||||
|
Second
quarter (beginning April 18, 2007)
|
$ | 53.65 | $ | 42.92 | |||
|
Third
quarter
|
$ | 44.31 | $ | 33.95 | |||
|
Fourth
quarter
|
$
|
44.13
|
$
|
34.53
|
|||
As
of
December 31, 2007, USNG had 22,078 holders
of units.
50
Dividends
USNG
has
not made and does not intend to make cash distributions to its unitholders.
Issuer
Purchases of Equity
Securities
USNG
does
not purchase units directly from its unitholders; however, in connection
with
its redemption of baskets held by Authorized Purchasers, USNG redeemed
215
baskets (comprising 21,500,000 units) during the year ended December
31,
2007.
|
Selected
Financial
Data.
|
Financial
Highlights (for the period
from April 18, 2007 to December 31, 2007)
(Dollar
amounts in 000’s except for
Net Loss per unit)
|
Total
assets
|
$
|
593,395
|
||
|
Net
realized and unrealized loss on futures transactions, inclusive
of
commissions
|
$
|
(20,247
|
)
|
|
|
Net
loss
|
$
|
(13,592
|
) | |
|
Weighted-average
limited partnership units
|
7,644,574
|
|||
| Net loss per unit | $ | (13.82 | ) | |
|
Net
loss per weighted average unit
|
$
|
(1.78
|
) | |
|
Cash
at end of year
|
$
|
488,067
|
51
|
Management’s
Discussion and
Analysis of Financial Condition and Results of
Operations.
|
The
following discussion should be read in conjunction with the consolidated
financial statements and the notes thereto of USNG included elsewhere
in this
annual report on Form 10-K.
Forward-Looking
Information
This
annual report on Form 10-K, 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 USNG'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 USNG'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 USNG
cannot
assure investors that these projections included in these forward-looking
statements will come to pass. USNG's actual results could differ materially
from those expressed or implied by the forward-looking statements as
a result of
various factors.
USNG
has
based the forward-looking statements included in this annual report
on Form 10-K
on information available to it on the date of this annual report on Form
10-K, and USNG assumes no obligation to update any such forward-looking
statements. Although USNG 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 USNG may make directly to them or through reports that USNG in the
future files with the SEC, including annual reports on Form 10-K, quarterly
reports on Form 10-Q and current reports on Form 8-K.
Introduction
USNG,
a
Delaware limited partnership, is a commodity pool that issues units that
may be purchased and sold on the AMEX. The investment objective of USNG is
for changes in percentage terms of the units’ NAV on a daily basis to
reflect the changes in percentage terms in the price of natural gas
delivered at the Henry Hub, Louisiana, as measured by the "Benchmark
Futures
Contract," also on a daily basis, less USNG’s expenses.
USNG
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 USNG’s NAV, measured in percentage terms, will closely track the
changes in the price of the Benchmark Futures Contract, also
measured in percentage terms. USNG’s General Partner believes the Benchmark
Futures Contract historically has exhibited a close correlation with the
spot price of natural gas. It is not the intent of USNG 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.
At
present, on any valuation day the Benchmark Futures Contract is the near
month futures contract for natural gas traded on the NYMEX unless the near
month contract will expire within two weeks of the valuation day,
in which case
the Benchmark Futures Contract is the next month contract for natural gas
traded on the NYMEX. “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.
USNG
may
also invest in Futures Contracts and Other Natural Gas Related Investments.
The General Partner of USNG is registered as a CPO with the CFTC,
and is
authorized by the LP Agreement to manage USNG. The General Partner is
authorized by USNG in its sole judgment to employ, establish the
terms of
employment for and terminate commodity trading advisors or futures
commission
merchants.
52
Valuation
of Futures Contracts
and the Computation of the NAV
The
NAV
of USNG units is calculated once each trading day as of the earlier
of the close
of the NYSE or 4:00 p.m.
New York time. The NAV for a particular trading day is released after
4:15 p.m. New York time. Trading
on the AMEX typically closes at 4:15 p.m. New York time. USNG uses the
NYMEX closing price (determined at the earlier of the close of that
exchange or
2:30 p.m. New York time) for the contracts held on the NYMEX, but
calculates or determines the value of all other USNG investments,
including ICE
Futures or other futures contracts, as of the earlier of the close of
the NYSE or 4:00 p.m. New York time.
Management’s
Discussion of Results of
Operation and the Natural Gas Market
Results
of
Operations. On April 18, 2007, USNG listed its units on the
AMEX under the ticker symbol “UNG.” On that day USNG established its initial
offering price at $50.00 per unit and issued 200,000 units to the
initial
Authorized Purchaser, Kellogg Capital Group LLC, in exchange for
$13,478,000 in
cash.
Since
its
initial offering of 30,000,000 units, USNG has made one subsequent offering
of its units: 50,000,000 units which were registered with the SEC on
November 21, 2007. Units offered by USNG in subsequent offerings
were sold by it
for cash at the units' NAV as described in the applicable prospectus.
As of
December 31, 2007, USNG had issued 37,900,000 units, 16,400,000 of
which were outstanding.
More
units have been issued than are outstanding due to the redemption
of units as
contemplated and permitted under the LP Agreement. Unlike funds that
are
registered under the 1940 Act, units that have been redeemed by USNG cannot
be resold by USNG without registration of their offering with the
SEC. As a
result, USNG contemplates that further offerings of its units will
be
registered with the SEC in the future in anticipation of additional
issuances.
As
of
December 31, 2007, the total unrealized gain on natural gas Futures
Contracts owned or held on that day was $20,043,880 and USNG
established cash deposits that were equal to $396,687,048. The majority
of those
cash assets were held in overnight deposits at USNG’s Custodian, while 21.46% of
the cash balance was held as margin deposits with the futures commission
merchant for the Futures Contracts purchased. The ending per unit NAV on
December 31, 2007 was $36.18.
Portfolio
Expenses.
USNG’s
expenses consist of investment management fees, brokerage fees and
commissions, certain offering costs, licensing fees and the fees
and expenses of
the independent directors of the General Partner. The management fee that
USNG pays to the General Partner is calculated as a percentage of
the total net
assets of USNG. For total net assets of up to $1 billion, the management
fee is
0.60%. For total net assets over $1billion, the management fee is
0.50% on the
incremental amount of assets. During the period ended December 31,
2007, the
daily average total net assets of USNG were $292,344,830. During the
period ended December 31, 2007 the total net assets of USNG did
not exceed $1 billion. The management fee paid by USNG
amounted to $1,239,862, which was calculated at the 0.60% rate for
the total net
assets up to and including $1 billion and at the rate of 0.50% on
total net
assets over $1 billion, and accrued daily. Management expenses as
a percentage
of total net assets averaged 0.60% over the course of the period.
USNG pays
for all brokerage fees, taxes and other expenses, including licensing
fees for
the use of intellectual property, ongoing registration or other
fees paid to the
SEC, 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. For the period from April 18, 2007 to December 31,
2007, USNG incurred $41,980 in ongoing registration fees and other offering
expenses. USNG is responsible for paying the fees and expenses,
including
directors' and officers' liability insurance, of the independent
directors of
the General Partner who are also audit committee members. USNG shares
these fees with USOF and US12OF based on the relative assets of
each fund
computed on a daily basis. These fees for calendar year 2007
amounted to a total of $286,000 for all three
funds.
USNG
also
incurs commissions to brokers for the purchase and sale of Futures
Contracts,
Other Natural Gas Related Investments or Treasuries. During the period from
April 18, 2007 to December 31, 2007, total commissions paid amounted
to
$351,310. Prior to the initial offering of its units, USNG had estimated
that
its annual level of such commissions was expected to be 0.13% of total net
assets. As an annualized percentage of average net assets, the figure
for 2007 represents approximately 0.17% 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.
Interest
Income.
USNG
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 the portfolio. Typically, such investments do not require
USNG to pay
the full amount of the contract value at the time of purchase,
but rather
require USNG to post an amount as a margin deposit against the
eventual
settlement of the contract. As a result, USNG retains an amount
that is
approximately equal to its total net assets, which USNG 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 held with USNG’s Custodian. The Treasuries, cash and/or cash
equivalents earn interest that accrues on a daily basis. For the
period from
April 18, 2007 to December 31, 2007, USNG earned $8,242,264 in
interest income
on such cash holdings. Based on USNG’s average daily total net assets, this is
equivalent to an annualized yield of 3.99%. USNG did not
purchase Treasuries during the period from April 18, 2007 to December 31,
2007 and held all of its funds in cash and/or cash equivalents
during this time
period.
53
Tracking
USNG’s
Benchmark.
USNG
seeks to manage its portfolio such that changes in its average daily
NAV, on a
percentage basis, closely track changes in the average of the daily
price of the
Benchmark Futures Contract, also on a percentage basis. Specifically,
USNG seeks
to manage the portfolio such that over any rolling period of 30 valuation
days,
the average daily change in the NAV is within a range of 90% to 110%
(0.9 to
1.1), of the average daily change of the Benchmark Futures Contract. As an
example, if the average daily movement of the Benchmark Futures Contract
for a particular 30-day time period was 0.5% per day, USNG 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). USNG’s portfolio management
goals do not include trying to make the nominal price of USNG’s NAV equal to the
nominal price of the current Benchmark Futures Contract 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.
For
the
30 valuation days ending December 31, 2007, the simple average daily
change in
the Benchmark Futures Contract was -0.289%, while the simple average daily
change in the NAV of USNG over the same time period was -0.281%.
The average
daily difference was 0.0156% (or 1.56 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 1.231%,
meaning
that over this time period USNG’s tracking error was within the plus or minus
10% range established as its benchmark tracking goal.
54
Since
the
offering of USNG units to the public on April 18, 2007 to December 31,
2007, the simple average daily change in the Benchmark Futures Contract was
-0.154%, while the simple average daily change in the NAV of USNG
over the same
time period was -0.143%. The average daily difference was 0.013%
(or 1.3 basis
point, 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 1.994%, meaning that over this time period USNG’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 USNG
versus the
return of its Benchmark Futures Contract can be calculated by comparing the
actual return of USNG, measured by changes in its NAV, versus the
expected
changes
in its NAV under the assumption that USNG’s returns had been exactly the same as
the daily changes in its Benchmark Futures Contract.
For
the
period ended December 31, 2007, the actual total return of USNG as measured
by changes in its NAV was -27.64%. This is based on initial NAV of $50.00
on April 18, 2007 and an ending NAV as of December 31, 2007 of $36.18.
During this time period, USNG made no distributions to its unitholders.
However,
if USNG’s daily changes in its NAV had instead exactly tracked the changes
in
the daily return of the Benchmark Futures Contract, USNG would have ended
2007 with an estimated NAV of $35.45, for a total return over the
relevant time
period of -29.11%. The difference between the actual NAV total return
of USNG of
27.64% and the expected total return based on the Benchmark Futures
Contracts of 29.11% was an error over the time period of 1.47%, which
is to say
that USNG’s actual total return exceeded 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
impact of the interest that USNG collects on its cash and cash equivalent
holdings. In addition, during the period from April 18, 2007 to December
31, 2007, USNG also collected fees from brokerage firms creating
or redeeming
baskets of units. This income also contributed to USNG’s actual return exceeding
the benchmark results. However, if the total assets of USNG 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.
There
are
currently three factors that have impacted, during the latest period,
or are
most likely to impact, USNG’s ability to accurately track its
Benchmark Futures Contract.
First,
USNG may buy or sell its holdings in the then current Benchmark Futures
Contract at a price other than the closing settlement price of that
contract on
the day in which USNG executes the trade. In that case, USNG may
get a price
that is higher, or lower, than that of the Benchmark Futures Contract,
which, could cause the changes in the daily NAV of USNG to either be too
high or too low relative to the changes in the daily benchmark. In
2007,
management attempted to minimize the effect of these transactions
by seeking to
execute its purchase or sales 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 USNG 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 USNG’s attempt to track its benchmark over
time.
Second,
USNG earns interest on its cash, cash equivalents and Treasury
holdings. USNG is not required to distribute any portion of its
income to its
unitholders and did not make any distribution to unitholders in
2007. Interest
payments, and any other income, were retained within the portfolio
and added to
USNG’s NAV. When this income exceeds the level of USNG’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), USNG will realize
a net yield
that will tend to cause daily changes in the NAV of USNG to track
slightly
higher than daily changes in the Benchmark Futures Contract. During 2007,
USNG earned, on an annualized basis, approximately 3.99% on its
cash holdings.
It also incurred cash expenses on an annualized basis of 0.60%
for management
fees and approximately 0.17% in brokerage commission costs related
to the
purchase and sale of futures contracts, and 0.22% for other expenses.
The
foregoing fees and expenses resulted in a net yield on an annualized
basis of
approximately 3.00% and affected USNG’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 increase. Conversely, if short-term
interest rates
were to decline, the amount of error created by the yield would
decrease. If
short-term yields drop to a level lower than the combined expenses
of the
management fee and the brokerage commissions, then the tracking
error would
become a negative number and would tend to cause the daily returns
of the NAV to
underperform the daily returns of the Benchmark Futures
Contract.
55
Third,
USNG may hold Other Natural Gas Related Investments in its portfolio that
may fail to closely track the Benchmark Futures Contract's total return
movements. In that case, the error in tracking the benchmark could
result in
daily changes in the NAV of USNG that are either too high, or too
low, relative
to the daily changes in the benchmark. During the period from April
18, 2007 to
December 31, 2007, USNG did not hold any Other Natural Gas Related
Investments. However, there can be no assurance that in future quarters
USNG
will not make use of such Other Natural Gas Related Investments.
During
the period from April 18, 2007 to December 31,
2007, the prices of front month futures contracts fell from $7.631
to $7.483. The prices of front month contracts were also lower than
the
prices of second month contracts during this time period, a condition
in the futures market referred to as "contango." The relationship
between the
prices of different months of the same futures contracts, the "term
structure of
futures prices," can have a major impact on the total return of owning
such
futures contracts over time.
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 in 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. If the price of 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 holding
in a near month
contract position and not take delivery of the oil, 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 will 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 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 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 $7. Over time, if contango remained constant, the difference
would
continue to increase.
56
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
USNG is not to
have the market price of its units match, dollar for dollar, changes
in the spot
price of natural gas, contango has impacted the total return on an
investment in USNG units during the past year relative to a hypothetical
direct
investment in natural gas. For example, an investment made in USNG units
made on June 30, 2007 and held to September 30, 2007 decreased,
based upon the changes in the closing market prices for USNG units
on those
days, by 12.14%, while the spot price of natural gas for immediate
delivery
during the same period increased
by 1.4% (note: this comparison ignores the potential costs associated with
physically owning and storing natural gas, which could be
substantial). This period of contango did not meaningfully impact USNG’s
investment objective of having percentage changes in its per unit
NAV track
percentage changes in the price of the Benchmark Futures Contract
since the
impact of backwardation and contango tended to equally impact the
percentage
changes in price of both USNG’s units and the Benchmark Futures
Contract. 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.
Natural
gas market. During
the period ended December 31, 2007, natural gas prices in the United
States were
impacted by several factors. At the beginning of the period, the
amount of
natural gas in storage was at higher than average levels versus
the previous
five years. The summer weather in the United States was moderate through
much of the season. A major use of natural gas in summer months
is the
production of electricity for residential and commercial buildings.
A major
variable in the use of natural gas for electricity production for
residential or
commercial buildings is weather, as it impacts the use of air conditioners
and
thus can cause wide swings in peak demand for electricity. The
mild weather had
the effect of reducing the rate at which the storage levels of
natural gas fell.
Later in the period, during the fall and early winter, weather
also remained
relatively warm, reducing the need for natural gas for heating
purposes. During
the entire period, the seasonally adjusted inventory levels of stored
natural gas remained above five-year averages. Finally, the natural
gas
producing portions of the United States located near the Gulf of
Mexico were not
adversely impacted by major hurricanes as has happened in the recent
past. As a
result of all the factors mentioned above, the natural gas market
in the United
States remained reasonably well supplied. The price of natural
gas remained
fairly range-bound for most of the period in the $6.00 to $8.00
level. Prices
ranged from a low of $5.468 to a high of $8.637 per mmBtu with
an average price
of $7.201.
Critical
Accounting
Policies
Preparation
of the condensed 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. USNG'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 USNG'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. To the extent USNG makes such investments, the
values used by
USNG for its forward contracts will be provided by its commodity
broker who
values over-the-counter contracts 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, USNG 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.
Liquidity
and Capital
Resources
USNG
has
not made, and does not anticipate making, use of borrowings or other
lines of
credit to meet its obligations. USNG has met, and it is anticipated
that USNG
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. USNG’s liquidity needs
include: redeeming units, providing margin deposits for its existing
natural gas
futures contracts or the purchase of additional natural gas Futures
Contracts
and posting collateral for its over-the-counter contracts and payment
of its
expenses, summarized below under “Contractual Obligations.”
USNG
currently generates cash primarily from (i) the sale of Creation
Baskets and
(ii) interest earned on Treasuries, cash and/or cash equivalents.
USNG has
allocated substantially all of its nets assets to trading in Natural
Gas
Interests. A significant portion of the NAV was held in cash and
cash
equivalents that were used as margin for USNG's trading in natural gas
interests. The percentage that Treasuries will bear to the total net assets
vary from period to period as the market values of the Natural Gas
Interests
change. The balance of the net assets is held in USNG's Futures Contracts
and Other Natural Gas Related Investments trading account. Interest
earned on
USNG's interest bearing-funds is paid to USNG.
57
USNG's
investment 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 or liquidated unless the traders are willing to
effect trades
at or within the specified daily limit. Such market conditions could
prevent
USNG from promptly liquidating its positions in Futures Contracts. During
the period from April 18, 2007 to December 31, 2007, USNG was not
forced to
purchase or liquidate any of its positions while daily limits were
in effect;
however, USNG cannot predict whether such an event may occur in the
future.
Through
April 10, 2006, all of the expenses of USOF, which is also managed
by the
General Partner, and of the General Partner, were funded by its affiliates.
Since April 10, 2006, these expenses have largely been borne by the
General
Partner and USOF.
To
date,
all of USNG's expenses, including its organizational and offering
expenses
related to the initial offering of its units, have been paid by the
General
Partner. Fees and expenses associated with the registration of units
with the
SEC subsequent to the initial offering have been borne by USNG. In
addition,
fees and expenses (including directors' and officers' liability insurance)
of
the independent directors of the General Partner, the management
fee paid to the
General Partner, brokerage fees and licensing fees will be paid directly
by
USNG. If the General Partner and USNG are unsuccessful in raising
sufficient funds to cover USNG's expenses or in locating any other
source of
funding, USNG 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 USNG entering into contractual commitments to purchase
or sell natural gas at a specified date in the future. The gross
or face amount
of the contracts will significantly exceed USNG's future cash requirements
since USNG intends to close out its open positions prior to settlement.
As a
result, USNG is generally only subject to the risk of loss arising
from the change in value of the contracts. USNG considers the "fair
value'' of
its derivative instruments to be the unrealized gain or loss on the
contracts.
The market risk associated with USNG's commitments to purchase natural
gas is
limited to the gross face amount of the contacts held. However, should
USNG
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 USNG could be unlimited.
USNG'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 USNG. The
limited experience that USNG has in utilizing its model to trade in natural
gas interests in a manner intended to track 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.
Credit
Risk
When
USNG
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, 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 USNG in such
circumstances.
The
General Partner attempts to manage the credit risk of USNG by following
various trading limitations and policies. In particular, USNG posts
margin
and/or holds liquid assets that are approximately equal to the face
amount 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 USNG to limit its credit
exposure.
UBS
Securities LLC, USNG's commodity broker, or any other broker that
may be
retained by USNG in the future, when acting as USNG'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 USNG, all assets of USNG
relating to
domestic Futures Contracts trading. A futures commission merchant
is not allowed
to commingle USNG's assets with its other assets. In addition, the
CFTC requires
commodity brokers to hold in a secure account the USNG assets related
to
foreign Futures Contracts trading.
Off
Balance Sheet
Financing
As
of
December 31, 2007, USNG 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 USNG. While USNG's exposure
under
these indemnification provisions cannot be estimated, they are not
expected to
have a material impact on USNG's financial position.
58
Redemption
Basket
Obligation
In
order
to meet its investment objective and pay its contractual obligations
described
below, USNG requires liquidity to redeem units, which redemptions must be
in blocks of 100,000 units called Redemption Baskets. USNG 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
USNG's
primary contractual obligations are with the General Partner. In
return for its
services, the General Partner is entitled to a management fee calculated
as a
fixed percentage of USNG's NAV, currently 0.60% for a NAV of $1 billion
or less,
and thereafter 0.50% for a NAV above $1 billion. The General
Partner agreed to pay the start-up costs associated with the formation of
USNG, primarily its legal, accounting and other costs in connection
with the General Partner's registration with the CFTC as a commodity pool
operator and the registration and listing of USNG and its units with
the SEC and the AMEX, respectively. However, the costs of registering
and
listing additional units of USNG with the SEC are directly borne
on an ongoing
basis by USNG, and not by the General Partner.
The
General Partner pays the fees of the custodian and transfer agent,
BBH&Co., as well as BBH&Co.'s fees for performing administrative
services, including in connection with the preparation of USNG's condensed
financial statements and its SEC and CFTC reports. The General Partner also
pays the fees of USNG's accountants and a separate firm for providing
tax
related services, as well as those of the Marketing Agent. The General
Partner
and USNG have also entered into a licensing agreement with the NYMEX
pursuant to which USNG and the affiliated funds managed by the General
Partner pay a licensing fee to the NYMEX.
In
addition to the General Partner's management fee, USNG pays its brokerage
fees
(including fees to a futures commission merchant), over-the-counter
dealer
spreads, any licensing fees for the use of intellectual property,
registration
and, subsequent to the initial offering, the fees paid to the SEC,
FINRA or any
other regulatory agency 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 USNG'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. USNG 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.
The
parties cannot anticipate the amount of payments that will be required
under
these arrangements for future periods, as USNG'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
and have
an option to renew, or, in some cases, are in effect for the duration
of USNG's
existence. Either party may terminate these agreements earlier for
certain
reasons described in the agreements.
59
Over-the-Counter
Derivatives
(Including Spreads and Straddles)
In
the
future, USNG may purchase over-the-counter contracts. Unlike most
of the
exchange-traded oil futures contracts or exchange-traded options
on such
futures, each party to 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 the natural gas, forward natural gas
prices or natural gas futures prices. For example, USNG 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 NYMEX and the prices of other Futures Contracts that
may be invested in by USNG.
To
protect itself from the credit risk that arises in connection with
such
contracts, USNG may enter into agreements with each counterparty
that provide
for the netting of its overall exposure to its counterparty, such
as the
agreements published by the International Swaps and Derivatives
Association,
Inc. USNG also may require that the counterparty be highly rated and/or
provide collateral or other credit support to address USNG’s exposure to the
counterparty. In addition, it is also possible for USNG and its
counterparty to
agree to clear their agreement through an established futures clearing
house
such as those connected to the NYMEX or the ICE Futures. In that
event, USNG
would no longer have credit risk of its original counterparty,
as the clearing
house would now be USNG's counterparty. USNG would still retain
any price risk
associated with its transaction.
USNG
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 Contract. USNG 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 USNG to changes in the
price
relationship between futures contracts which will expire sooner
and those that
will expire later. USNG 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 USNG,
or the General
Partner felt 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.
USNG 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.
USNG 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 USNG or
if it would lead to an overall lower cost of trading to achieve
a given level of
economic exposure to movements in oil prices.
During
the period from April 18, 2007 to December 31, 2007, USNG did
not employ any
hedging methods since all of its investments were made over an
exchange.
Therefore, USNG was not exposed to counterparty
risk.
60
|
Financial
Statements and
Supplementary Data.
|
Index
to Financial
Statements
61
To
the
Partners of
United
States Natural Gas Fund, LP
We
have
audited the accompanying statements of financial condition
of United States
Natural Gas Fund, LP, (the “Fund”) as of December 31, 2007 and 2006, including
the condensed schedule of investments as of December 31, 2007,
and the related
statements of operations, changes in partners’ capital and cash flows for the
period from April 18, 2007 (commencement of operations) to
December 31, 2007 and
the period from September 11, 2006 (inception) to December
31, 2006. These
financial statements are the responsibility of the Fund’s management. Our
responsibility is to express an opinion on these financial
statements based on
our audits.
In
our
opinion, the financial statements referred to above present
fairly, in all
material respects, the financial position of United States
Natural Gas Fund, LP
as of December 31, 2007 and 2006, and the results of its operations
and its cash
flows for the period from April 18, 2007 (commencement of operations)
through
December 31, 2007 and the period from September 11, 2006 (inception)
to December
31, 2006 in conformity with accounting principles generally
accepted in the
United States of America.
/s/ SPICER JEFFRIES LLP
Greenwood
Village, Colorado
March
20, 2008
62
|
United
States Natural Gas Fund, LP
|
|||||||
|
Statements
of Financial
Condition
|
|||||||
|
At
December 31, 2007 and
2006
|
|||||||
|
|
|||||||
|
2007
|
2006
|
||||||
|
Assets
|
|||||||
|
Cash
and cash equivalents
|
$
|
488,067,199
|
$
|
1,000
|
|||
|
Equity
in UBS Securities LLC trading accounts:
|
|||||||
|
Cash
|
85,115,889
|
-
|
|||||
|
Unrealized
gain on open commodity futures contracts
|
20,043,880
|
|
-
|
||||
|
Interest
receivable
|
690,046
|
-
|
|||||
|
Other
assets
|
92,955
|
-
|
|||||
|
Total
assets
|
$
|
594,009,969
|
$
|
1,000
|
|||
|
Liabilities
and Partners'
Capital
|
|||||||
|
General
Partner management fees (Note 3)
|
$
|
264,556
|
$
|
-
|
|||
| Accrued Tax Reporting Costs | 239,954 | - | |||||
| License Fee Payable | 51,560 | - | |||||
| Accrued Directors' Fees | 36,118 | - | |||||
|
Brokerage
commissions payable
|
22,800
|
-
|
|||||
|
Total
liabilities
|
614,988
|
-
|
|||||
|
Commitments
and Contingencies
(Notes 3,
4 and 5)
|
|||||||
|
Partners'
Capital
|
|||||||
|
General
Partner
|
-
|
20
|
|||||
|
Limited
Partners
|
593,394,981
|
980
|
|||||
|
Total
Partners'
Capital
|
593,394,981
|
1,000
|
|||||
|
Total
liabilities and
partners' capital
|
$
|
594,009,969
|
$
|
1,000
|
|||
|
Limited
Partners' units outstanding
|
16,400,000
|
-
|
|||||
|
Net
asset value per unit
|
$
|
36.18
|
$
|
-
|
|||
|
Market
value per unit
|
$
|
36.24
|
$
|
-
|
|||
|
See
accompanying notes
to financial statements.
|
|||||||
63
|
United
States Natural Gas Fund, LP
|
||||||||||
|
Condensed
Schedule of
Investments
|
||||||||||
|
At
December 31,
2007
|
||||||||||
|
Open
Futures Contracts
|
||||||||||
|
Gain on
Open
|
||||||||||
|
Number
of
|
Commodity
|
%
of
Partners'
|
||||||||
|
|
Contracts
|
Contracts
|
Capital
|
|||||||
|
United
States
Contracts
|
||||||||||
|
Natural
Gas Futures contracts, expires February 2008
|
7,924
|
$
|
20,043,880
|
|
3.38
|
|
||||
|
Cash
Equivalents
|
||||||||||
|
|
Cost
|
Market
Value
|
||||||||
|
United
States - Money Market
Funds
|
||||||||||
|
Goldman
Sachs Financial Square Funds - Government Fund
|
$
|
25,791,412
|
$
|
25,791,412
|
4.34
|
|||||
|
Goldman
Sachs Financial Square Funds - Treasury Instruments
Fund
|
150,704,628
|
150,704,628
|
25.40
|
|||||||
|
$
|
176,496,040
|
|
176,496,040
|
29.74
|
||||||
| Cash |
311,571,159
|
52.51
|
|||||
| Total cash and cash equivalents |
488,067,199
|
82.25
|
|||||
|
Cash
on deposit with
broker
|
|
85,115,889
|
14.34
|
||||
|
Other
assets and
receivables in excess of liabilities
|
168,013
|
0.03
|
|||||
|
Total
Partners'
Capital
|
$
|
593,394,981
|
100.00
|
||||
|
See
accompanying notes to
financial statements.
|
64
|
Statements
of Operations
|
|||||||
|
For
the period from April
18, 2007 (commencement of operations) to December
31, 2007
and
|
|||||||
| the period from September 11, 2006 (inception) to December 31, 2006 | |||||||
|
Period
from
|
Period
from
|
||||||
|
April
18, 2007
to
|
September
11, 2006 to
|
||||||
|
December
31,
2007
|
December
31, 2006
|
||||||
|
Income
|
|||||||
|
Gains
(losses) on trading of commodity futures contracts:
|
|||||||
|
Realized losses
on closed positions
|
$
|
(39,939,850
|
)
|
$
|
-
|
||
|
Change
in unrealized gains on open positions
|
20,043,880
|
|
-
|
||||
|
Interest
income
|
8,242,264
|
-
|
|||||
|
Other
income
|
107,000
|
-
|
|||||
|
Total loss
|
(11,546,706
|
)
|
-
|
||||
|
Expenses
|
|||||||
|
General
Partner management fees (Note 3)
|
1,239,862
|
|
|||||
|
Brokerage
commissions
|
351,310
|
||||||
|
Other
expenses
|
454,149
|
-
|
|||||
|
Total
expenses
|
2,045,321
|
-
|
|||||
|
Net loss
|
$
|
(13,592,027
|
)
|
$
|
-
|
||
|
Net loss
per limited
partnership unit
|
$
|
(13.82
|
)
|
$
|
-
|
|
|
|
Net loss
per weighted
average limited partnership unit
|
$
|
(1.78
|
)
|
$
|
-
|
||
|
Weighted
average limited
partnership units outstanding
|
7,644,574
|
-
|
|||||
|
See
accompanying notes
to financial statements.
|
|||||||
65
|
Statements
of Changes in
Partners' Capital
|
||||||||||
|
For
the period from April 18,
2007 (commencement of operations) to December 31,
2007
and
|
||||||||||
| the period from September 11, 2006 (inception) to December 31, 2006 | ||||||||||
|
General
Partner
|
Limited
Partners
|
Total
|
||||||||
| Balances, at Inception | $ | - | $ | - | $ | - | ||||
| Initial contribution of capital | 20 | 980 | 1,000 | |||||||
|
Balances,
at December 31,
2006
|
20
|
980
|
1,000
|
|||||||
|
Addition
of 37,900,000 partnership units
|
-
|
1,458,786,977
|
1,458,786,977
|
|||||||
|
Redemption
of 21,500,000 partnership units
|
(20
|
)
|
(851,800,949
|
)
|
(851,800,969
|
)
|
||||
|
Net
loss
|
-
|
(13,592,027
|
)
|
(13,592,027
|
)
|
|||||
|
Balances,
at December 31,
2007
|
$
|
-
|
$
|
593,394,981
|
$
|
593,394,981
|
||||
|
Net
Asset Value Per
Unit
|
||||||||||
| At December 31, 2006 | $ | - | ||||||||
|
At
April 18, 2007 (commencement of operations)
|
$
|
50.00
|
||||||||
|
At
December 31, 2007
|
$
|
36.18
|
||||||||
|
See
accompanying notes
to financial statements.
|
||||||||||
66
|
Statements
of Cash Flows
|
|||||||
|
For
the period from April
18, 2007 (commencement of operations) to December
31, 2007
and
|
|||||||
|
the
period from September 11, 2006 (inception) to December
31,
2006
|
|||||||
|
Period
from
|
Period
from
|
||||||
|
April
18, 2007
to
|
September
11, 2006 to
|
||||||
|
December
31, 2007
|
December
31, 2006
|
||||||
|
Cash
Flows from Operating
Activities:
|
|||||||
|
Net
loss
|
$
|
(13,592,027
|
)
|
$
|
-
|
||
|
Adjustments
to reconcile net loss to net cash used in operating
activities:
|
|||||||
|
Increase
in commodity futures trading account - cash
|
(85,115,889
|
)
|
-
|
||||
|
Unrealized
gains on futures contracts
|
(20,043,880
|
) |
-
|
||||
|
Increase
in interest receivable and other assets
|
(783,001
|
)
|
-
|
||||
|
Increase
in management fees payable
|
264,556
|
- | |||||
|
Increase
in commissions payable
|
22,800
|
-
|
|||||
|
Increase
in other liabilities
|
327,632
|
-
|
|||||
|
Net
cash used in operating
activities
|
(118,919,809
|
)
|
-
|
||||
|
Cash
Flows from Financing
Activities:
|
|||||||
|
Subscription
of partnership units
|
1,458,786,977
|
1,000
|
|||||
|
Redemption
of partnership units
|
(851,800,969
|
)
|
-
|
||||
|
Net
cash provided
by financing activities
|
606,986,008
|
1,000
|
|||||
|
Net
Increase in Cash and Cash
Equivalents
|
488,066,199
|
1,000
|
|||||
|
Cash
and Cash
Equivalents,
beginning of period
|
1,000
|
-
|
|||||
|
Cash
and Cash
Equivalents,
end of period
|
$
|
488,067,199
|
$
|
1,000
|
|||
|
See
accompanying notes
to financial statements.
|
|||||||
67
United
States Natural Gas Fund, LP
Notes
to Financial
Statements
For
the period from April 18, 2007
(commencement of operations) to December 31, 2007 and the period from
September 11, 2006 (inception) to December 31, 2006
NOTE
1 - ORGANIZATION AND
BUSINESS
United
States Natural Gas Fund, LP ("USNG") was organized as a limited partnership
under the laws of the state of Delaware on September 11, 2006. USNG
is a
commodity pool that issues units that may be purchased and sold on
the American
Stock Exchange (the "AMEX"). USNG will continue in perpetuity, unless
terminated
sooner upon the occurrence of one or more events as described in
its Second
Amended and Restated Agreement of Limited Partnership (the "LP Agreement").
The
investment objective of USNG is to have the changes in percentage
terms of its
net asset value reflect the changes in percentage terms of the price
of natural
gas delivered to the Henry Hub, Louisiana, as measured by the changes
in the
price of the futures contract on natural gas (the "Benchmark Futures
Contract")
as traded on the New York Mercantile Exchange (the "NYMEX") that is the
near month contract to expire, except when the near month contract is
within two weeks of expiration, in which case it will be measured
by the futures contract that is the next month contract to expire,
less USNG's
expenses. USNG will accomplish its objective through investments in futures
contracts for natural gas traded on the NYMEX or other regulated
commodity
exchanges. USNG may also invest 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 and
over-the-counter transactions that are based on the price of natural
gas, oil
and other petroleum-based fuels, Futures Contracts and indices based
on the
foregoing (collectively, "Other Natural Gas Related Investments"),
if in the
opinion of Victoria Bay Asset Management, LLC (the "General Partner") such
investments will allow USNG to achieve its investment objective.
As of December
31, 2007, USNG held 7,924 Futures Contracts traded on the
NYMEX.
USNG
commenced operations on April 18, 2007 and has a fiscal year ending
on December
31. The General Partner of USNG is responsible for the management of
USNG. The General Partner is a member of the National Futures Association
(the
"NFA") and became a commodity pool operator with the Commodity Futures
Trading Commission (the "CFTC") effective December 1, 2005. The General
Partner
is also the general partner of United States Oil Fund, LP ("USOF"), United
States 12 Month Oil Fund, LP ("US12OF") and United States Gasoline Fund, LP
("USG") which listed their units on the AMEX under the ticker symbols "USO"
on April 10, 2007, "USL" on December 6, 2007 and "UGA" on February
26, 2008,
respectively.
USNG
issues limited partnership interests ("units") to certain authorized
purchasers ("Authorized Purchasers") by offering baskets consisting of
100,000 units ("Creation Baskets") through ALPS Distributors, Inc.
(the "Marketing Agent"). The purchase price for a Creation Basket
is based upon
the net asset value of a unit determined as of 4:00 p.m. New York time on
the day the order to create the basket is properly received. In addition,
Authorized Purchasers pay USNG a $1,000 fee for each order to create one or
more Creation Baskets. Units can be purchased or sold on a nationally
recognized securities exchange in smaller increments than a Creation
Basket.
Units purchased or sold on a nationally recognized securities exchange
are not
made at the net asset value of USNG but rather at market prices quoted on
such exchange.
In
April
2007, USNG initially registered 30,000,000 units on Form S-1 with
the Securities
and Exchange Commission (the "SEC"). On April 18, 2007, USNG listed
its units on the AMEX under the ticker symbol “UNG”. On that day, USNG
established its initial net asset value by setting the price at $50.00
per unit
and issued 200,000 units to the initial Authorized Purchaser, Merrill
Lynch
Professional Clearing Corp., in exchange for $10,001,000 in cash.
As of
December 31, 2007, USNG had registered a total of 80,000,000 units.
USNG commenced investment operations on April 18, 2007 by purchasing
Benchmark Futures Contracts traded on the NYMEX.
NOTE
2 - SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
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 statement of financial condition and
are 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 financial statements. Changes in the
unrealized gains or losses between periods are reflected in the condensed
statement of operations. USNG earns interest on its assets denominated
in U.S.
dollars on deposit with the futures commission merchant at the 90-day
Treasury bill rate. In addition, USNG 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
USNG
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.
Additions
and
Redemptions
Authorized
Purchasers may purchase Creation Baskets from USNG as of the beginning of
each business day based upon the prior day's net asset value.
Authorized
Purchasers may redeem units from USNG only in blocks of 100,000
units called
“Redemption Baskets”. The amount of the redemption proceeds for a Redemption
Basket will be equal to the net asset value of the units in the
Redemption
Basket determined as of 4:00 p.m. New York time on the day the
order to redeem
the basket is properly received.
USNG
receives or pays the proceeds from units sold or
redeemed one business day after the trade-date of the purchase
or redemption.
The amounts due from Authorized Purchasers are reflected in
USNG's statement of financial condition as receivable for units sold,
and
amounts payable to Authorized Purchasers upon redemption are
reflected as
payable for units redeemed.
68
Partnership
Capital and Allocation of
Partnership Income and Losses
Profit
or
loss shall be allocated among the partners of USNG 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
USNG
calculates net asset value on each 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. USNG 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 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 December 31, 2007.
Offering
Costs
Offering
costs incurred in connection with the registration of additional
units after the
initial registration of units are borne by USNG. These costs include
registration fees paid to regulatory agencies and all legal, accounting,
printing and other expenses associated therewith. 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
and
cash equivalents include money market portfolios and overnight time
deposits
with original maturity dates of three months or less.
Use
of Estimates
The
preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
USNG’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 financial statements, and the reported amounts of the
revenue and expenses during the reporting period. Actual results
could differ
from those estimates and assumptions.
NOTE 3
- FEES PAID BY THE FUND
AND RELATED PARTY TRANSACTIONS
General
Partner Management
Fee
Under
the
LP Agreement, the General Partner is responsible for investing
the assets of
USNG in accordance with the objectives and policies of USNG. 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 USNG. For these services, USNG is contractually obligated
to pay the
General Partner a fee, which is paid monthly and based on average
daily net
assets, that is equal to 0.60% per annum on average net assets
of $1,000,000,000
or less and 0.50% per annum on average daily net assets that are
greater than
$1,000,000,000.
Ongoing
Registration Fees and Other
Offering Expenses
USNG
pays
all costs and expenses associated with the ongoing registration
of 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 period from April 18, 2007
to December 31, 2007, USNG incurred $41,980 in registration fees and
other offering expenses.
Director's
Fees
USNG
is
responsible for paying the fees and expenses, including directors'
and officers'
liability insurance, of the independent directors of the General
Partner who are
also audit committee members. USNG shares these fees with USOF and
US12OF based on the relative assets of each fund, computed
on a daily basis.
These fees for calendar year 2007 amounted to a total of $286,000
for all of the
funds.
Licensing
Fees
As
discussed in Note 4, USNG entered into a licensing agreement with the NYMEX
on May 30, 2007. The agreement has an effective date of April
10, 2006. Pursuant
to the agreement, USNG 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.
For the period ended December 31, 2007, USNG incurred $81,317 under this
arrangement.
Investor
Tax Reporting
Cost
The
fees
and expenses associated with USNG's 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
USNG. These costs are estimated to be $450,000 for the period from
April
18, 2007 to December 31, 2007.
Other
Expenses and
Fees
In
addition to the fees described above,
USNG pays all brokerage fees, taxes and other expenses in connection
with
the operation of USNG, excluding costs and expenses paid by the General
Partner as outlined in Note 4.
69
NOTE
4 - CONTRACTS AND
AGREEMENTS
USNG
is
party to a marketing agent agreement, dated as of April 17, 2007, with the
Marketing Agent, whereby the Marketing Agent provides certain marketing
services
for USNG as outlined in the agreement. The fees of the Marketing
Agent, which
are borne by the General Partner, include the
following fee: 0.06% on USNG's assets up to $3 billion; and 0.04% on
USNG's assets in excess of $3 billion.
The
above
fees do 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.
USNG
is
also party to a custodian agreement, dated January 12, 2007, with
Brown Brothers
Harriman & Co. ("BBH&Co."), whereby BBH&Co. holds investments on
behalf of USNG. The General Partner pays the fees of the custodian, which
shall be determined by the parties from time to time. In addition,
USNG is party
to an administrative agency agreement dated, March 5, 2007, with
the General
Partner and BBH&Co., whereby BBH&Co. acts as the administrative agent,
transfer agent and registrar for USNG. The General Partner also pays
the fees of
BBH&Co. for its services under this agreement and such fees will be
determined by the parties from time to time.
Currently,
the General Partner pays BBH&Co. for its services, in the foregoing
capacities, the greater of a minimum of $125,000 annually or an asset-based
charge of (a) 0.06% for the first $500 million of USNG's, USOF's, US12OF's
and USG's combined net assets, (b) 0.0465% for USNG's, USOF's, US12OF's and
USG's combined net assets greater than $500 million but less than
$1 billion,
and (c) 0.035% for USNG's, USOF's, US12OF's and USG's combined net assets
in excess of $1 billion. The General Partner also pays a $25,000
annual fee for
the transfer agency services and transaction fees ranging from $7.00
to $15.00
per transaction.
USNG
invests primarily in Futures Contracts traded on the NYMEX. On May 30,
2007, USNG and the NYMEX entered into a license agreement whereby
USNG was
granted a non-exclusive license to use certain of the NYMEX's settlement
prices
and service marks. The agreement has an effective date of April 10,
2006. Under the license agreement, USNG 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.
USNG
expressly disclaims any association with the NYMEX or endorsement
of USNG by the
NYMEX and acknowledges that “NYMEX” and “New York Mercantile Exchange” are
registered trademarks of the NYMEX.
USNG
has
entered into a brokerage agreement with UBS Securities LLC ("UBS
Securities").
The agreement requires UBS Securities to provide services to USNG
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
USNG's account. The agreement provides that UBS Securities charge
USNG
commissions of approximately $7
per round-turn trade, plus applicable exchange and NFA fees
for Futures Contracts and options on Futures Contracts.
NOTE
5 - FINANCIAL INSTRUMENTS,
OFF-BALANCE SHEET RISKS AND CONTINGENCIES
USNG
engages in the speculative trading of Futures Contracts and options
on Futures Contracts (collectively, "derivatives"). USNG is 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.
All
of
the contracts currently traded by USNG are exchange-traded. The risks
associated
with exchange-traded contracts are generally perceived to be less
than those
associated with over-the-counter transactions since, in over-the-counter
transactions, USNG must rely solely on the credit of their respective
individual
counterparties. However, in the future, if USNG were to enter into
non-exchange
traded contracts, it would be subject 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.
USNG also
has credit risk since the sole counterparty to all domestic and foreign
futures
contracts is the exchange clearing corporation. In addition, USNG bears the
risk of financial failure by the clearing broker.
The
purchase and sale of futures and options on Futures Contracts 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.
USNG’s
cash and other property, such as U.S. Treasury Bills, 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.
USNG
invests its cash in money market funds that seek to maintain a
stable net asset
value. USNG is exposed to any risk of loss associated with an investment
in
these money market funds. As of December 31, 2007 and 2006 USNG had
deposits in domestic financial institutions in the amount of $396,687,048
and $1,000, 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, USNG 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, USNG 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.
70
USNG’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, USNG 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 USNG are reported in its 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.
Goldman,
Sachs & Co. (“Goldman Sachs”) sent USOF a letter on March 17, 2006,
providing USOF and the General Partner notice under 35 U.S.C.
Section 154(d) of
two pending United States patent applications, Publication Nos.
2004/0225593A1
and 2006/0036533A1. Both patent applications are generally directed
to a method
and system for creating and administering a publicly traded interest
in a
commodity pool. In particular, the Abstract of each patent application
defines a
means for creating and administering a publicly traded interest
in a commodity
pool that includes the steps of forming a commodity pool having
a first position
in a futures contract and a corresponding second position in
a margin
investment, and issuing equity interests of the commodity pool
to third party
investors. Subsequently, two U.S. patents were issued; the first,
patent number
US7,283,978B2, was issued on October 16, 2007, and the second,
patent number
US7,319,984B2, was issued on January 15, 2008.
Preliminarily,
USOF's management is of the view that the structure and operations of USOF
and its affiliated commodity pools do not infringe these
patents. USOF is also
in the process of reviewing prior art (prior structures and
operations of
similar investment vehicles) that may invalidate one or more
of the claims in
these patents. In addition, USOF has retained patent counsel
to advise it on
these matters and is in the process of obtaining their opinions
regarding the
non-infringement of each of these patents by USOF and/or
the patents' invalidity
based on prior art. If the patents were alleged to apply
to USOF's structure
and/or operations, and are found by a court to be valid and
infringed, Goldman
Sachs may be awarded significant monetary damages and/or
injunctive relief.
See
“USNG's Operating Risks — Third parties may infringe upon or otherwise
violate intellectual property rights or assert that the General
Partner has
infringed or otherwise violated their intellectual property
rights, which may
result in significant costs and diverted
attention.”
NOTE 6
- FINANCIAL HIGHLIGHTS
The
following table presents per unit performance data and other supplemental
financial data for the period from April 18, 2007 (commencement of
operations) to December 31, 2007 and the period from September 11, 2006
(inception) to December 31, 2006 for the limited partners. This information
has
been derived from information presented in the condensed financial
statements.
|
For
the period from
|
For
the period
from
|
|||||||||
|
|
April
18, 2007 to
|
September
11, 2006
to
|
||||||||
|
|
December
31, 2007
|
December
31,
2006
|
||||||||
|
Per
Unit Operating
Performance:
|
||||||||||
|
Net
asset value, beginning of period
|
$
|
50.00
|
$ |
-
|
||||||
|
Total loss
|
(13.55
|
) |
-
|
|
||||||
|
Total
expenses
|
(0.27
|
) |
-
|
|
||||||
|
Net
decrease in net asset value
|
(13.82
|
) |
-
|
|
||||||
|
Net
asset value, end of period
|
$
|
36.18
|
$ |
-
|
||||||
|
Total
Return
|
(27.64
|
)% |
-
|
% |
|
|||||
|
Ratios
to Average Net Assets
(annualized)
|
||||||||||
|
Total loss
|
(5.59
|
)% |
-
|
% |
|
|||||
|
Expenses
excluding management fees
|
(0.39
|
)% |
-
|
% |
|
|||||
|
Management
fees
|
(0.60
|
)% |
-
|
% |
|
|||||
|
Net loss
|
(6.58
|
)% |
-
|
% |
|
|||||
Total
returns are calculated based on the change in value during the period.
An
individual limited partner’s total return and ratio may vary from the above
total returns and ratios based on the timing of contributions to
and withdrawals
from USNG.
The
following summarized (unaudited) quarterly financial information
presents the
results of operations and other data for three-month periods
ended March 31,
June 30, September 30 and December 31, 2007 and 2006.
|
First
Quarter
|
Second
Quarter
|
Third
Quarter
|
Fourth
Quarter
|
||||||||||
|
2007
|
2007
|
2007
|
2007
|
||||||||||
|
Total
Income (Loss)
|
$
|
-
|
|
$
|
(7,658,968
|
)
|
$
|
8,655,926
|
$
|
(12,543,664
|
)
|
||
|
Total
Expenses
|
-
|
79,457
|
621,505
|
1,344,359
|
|||||||||
|
Net
Income (Loss)
|
$
|
-
|
|
$
|
(7,738,425
|
)
|
$
|
8,034,421
|
$
|
(13,888,023
|
)
|
||
|
Net
Income (Loss) per Unit
|
$
|
-
|
|
$
|
(6.51
|
)
|
$
|
(5.28
|
)
|
$
|
(2.03
|
)
|
|
|
First
Quarter
|
Second
Quarter
|
Third
Quarter
|
Fourth
Quarter
|
||||||||||
|
2006
|
2006
|
2006
|
2006
|
||||||||||
|
Total
Income (Loss)
|
$
|
-
|
|
$
|
-
|
$
|
-
|
$
|
-
|
|
|||
|
Total
Expenses
|
-
|
-
|
-
|
-
|
|||||||||
|
Net
Income (Loss)
|
$
|
-
|
|
$
|
-
|
$
|
-
|
$
|
-
|
|
|||
|
Net
Income (Loss) per Unit
|
$
|
-
|
|
$
|
-
|
$
|
-
|
$
|
-
|
|
|||
71
|
Changes
in and Disagreements
With Accountants on Accounting and Financial
Disclosure.
|
Not
applicable.
|
Controls
and
Procedures.
|
Disclosure
Controls and
Procedures.
USNG
maintains disclosure controls and procedures that are designed to
ensure that
material information required to be disclosed in USNG’s periodic reports
filed or submitted under the Exchange Act, is recorded, processed,
summarized and reported within the time period specified in the SEC’s rules and
forms.
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
USNG if USNG had any officers, have evaluated the effectiveness of
USNG’s
disclosure controls and procedures and have concluded that the disclosure
controls and procedures of USNG have been effective as of the end
of the period
covered by this annual report on Form
10-K.
Management’s
Annual Report on
Internal Control Over Financial Reporting and Attestation Report
of Registered
Public Accounting Firm.
This
annual report on Form 10-K does not include a report of management's
assessment
regarding internal control over financial reporting or an attestation
report of
USNG's registered public accounting firm due to a transition period
established
by the rules of the SEC for newly public companies.
Change
in Internal Control Over
Financial Reporting.
There
were no changes in USNG’s internal control over financial reporting during
USNG’s last fiscal quarter that have materially affected, or are reasonably
likely to materially affect, USNG’s internal control over financial
reporting.
|
Other
Information.
|
Monthly
Account
Statements.
Pursuant
to the requirement under part 4.22 of the CEA, each month USNG
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 filed with
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 USNG's website at
www.unitedstatesnaturalgasfund.com.
72
|
Directors,
Executive Officers
and Corporate Governance.
|
Messrs.
Gerber and Mah also serve as executive officers of the General Partner.
USNG has
no executive officers. Its affairs are generally managed by the General
Partner.
The following individuals serve as Management Directors of the General
Partner.
Nicholas
Gerber has been the President and CEO of the General Partner since
June
9, 2005 and a Management Director of the General Partner since
May 10, 2005. He
maintains his main business office at 1320 Harbor Bay Parkway,
Suite 145,
Alameda, California 94502. Mr. Gerber acts as a portfolio manager
for USNG,
USOF, US12OF and USG. Mr. Gerber will act as a portfolio manager for
USHO and US12NG. He registered with the NFA as a Principal of the
General
Partner in November 2005, and as an Associated Person of the General
Partner in
December 2005. Currently, Mr. Gerber manages USNG, USOF, US12OF
and USG. He will
also manage USHO and US12NG. Mr. Gerber has also served as Vice
President/Chief
Investment Officer of Lyon’s Gate Reinsurance Company, Ltd. since June of 2003.
Mr. Gerber has an extensive background in securities portfolio
management and in
developing investment funds that make use of indexing and futures
contracts. He
is also the founder of Ameristock Corporation, a California-based
investment
adviser registered under the Advisers Act, that has been sponsoring
and
providing portfolio management services to mutual funds since 1995.
Since 1995,
Mr. Gerber has been the portfolio manager of the Ameristock Mutual
Fund, Inc. a
mutual fund registered under the 1940 Act, focused on large cap
U.S. equities
that currently has approximately $482 million in assets. He has
also been a
Trustee for the Ameristock ETF Trust since June 2006, and a portfolio
manager
for the Ameristock/Ryan 1 Year, 2 Year, 5 Year, 10 Year and 20
Year Treasury ETF
since June 2007. In these roles, Mr. Gerber has gained extensive
experience in
evaluating and retaining third-party service providers, including
custodians,
accountants, transfer agents, and distributors. Prior to managing
Ameristock
Mutual Fund Inc., Mr. Gerber served as a portfolio manager with
Bank of America
Capital Management. While there he was responsible for the daily
stewardship of
four funds with a combined value in excess of $240 million. At
Bank of America
Capital Management, Mr. Gerber worked extensively in the development
and
managing of mutual funds and institutional accounts that were designed
to track
assorted equity market indices such as the Standard & Poor’s 500 and the
Standard & Poor’s Midcap 400. Before joining Bank of America, he was
managing director and founder of the Marc Stevens Futures Index
Fund, a fund
that combined the use of commodity futures with equity stock index
futures. The
futures index fund was a commodity pool and Mr. Gerber was the
CPO. It was
ultimately purchased by Newport Commodities. Mr. Gerber’s two decades of
experience in institutional investment include a period of employment
as a floor
trader on the NYMEX. Mr. Gerber has passed the Series 3 examination
for
associated persons. He holds an MBA in finance from the University
of San
Francisco and a BA from Skidmore College. Mr. Gerber is 45 years
old.
Howard
Mah
has been a Management Director of the General Partner since May
10, 2005,
Secretary of the General Partner since June 9, 2005, and Chief
Financial Officer
of the General Partner since May 23, 2006. In these roles, Mr.
Mah is currently
involved in the management of USNG, USOF, US12OF and USG and will be
involved in the management of USHO and US12NG. Mr. Mah also serves as
the General Partner’s Chief Compliance Officer. He received a Bachelor of
Education from the University of Alberta, in 1986 and an MBA from
the University
of San Francisco in 1988. He has been Secretary and Chief Compliance
Officer of
the Ameristock ETF Trust since February 2007, Compliance Officer
of Ameristock
Corporation since 2001, a tax & finance consultant in private practice since
1995, Secretary of Ameristock Mutual Fund since 1995 and Ameristock
Focused
Value Fund from December 2000 to January 2005, Chief Compliance
Officer of
Ameristock Mutual Fund since 2004 and the Co-Portfolio Manager
of the Ameristock
Focused Value Fund from December 2000 to January 2005. Mr. Mah
is 43 years
old.
Andrew
F.
Ngim has been a Management Director of the General Partner since
May 10,
2005 and Treasurer of the General Partner since June 9, 2005. As
Treasurer of
the General Partner, Mr. Ngim is currently involved in the management
of USNG,
USOF, US12OF and USG and will be involved in the management of USHO and
US12NG. He received a Bachelor of Arts from the University of California
at
Berkeley in 1983. Mr. Ngim has been the Managing Director and co-portfolio
manager of Ameristock Corporation since 1999, Trustee of the Ameristock
ETF
Trust since February 2007, and a portfolio manager for the Ameristock/Ryan
1
Year, 2 Year, 5 Year, 10 Year and 20 Year Treasury ETF since June
2007. He was
the co-portfolio manager of the Ameristock Large Company Growth
Fund from
December 2000 to June 2002 and a Benefits Consultant with PricewaterhouseCoopers
from 1994 to 1999. Mr. Ngim is 47 years old.
Robert
L.
Nguyen has been a Management Director of the General Partner since
May
10, 2005. As a Management Director of the General Partner, Mr.
Nguyen is
currently involved on the management of USNG, USOF, US12OF and
USG and will
be involved in the management of USHO and US12NG. He received a
Bachelor of Science from California State University Sacramento
in 1981. Mr.
Nguyen has been the Managing Principal of Ameristock Corporation
since 2000. He
was Co-Portfolio Manager of the Ameristock Large Company Growth
Fund from
December 2000 to June 2002 and Institutional Specialist with Charles
Schwab
& Company Inc. from 1995 to 1999. Mr. Nguyen is 48 years
old.
73
The
following individuals provide significant services to USNG but
are employed by
the entities noted below.
John
P.
Love acts as the Portfolio Operations Manager for USNG, USOF,
US12OF and
USG and is expected to be the Portfolio Operations Manager for USHO
and
US12NG. Mr. Love is also employed by the General Partner. Mr. Love
has served as the operations manager of Ameristock Corporation
since 2002, where
he was responsible for back office and marketing activities for
the Ameristock
Mutual Fund and Ameristock Focused Value Fund and for the firm
in general. From
1993 to September 2002, Mr. Love was a project manager and managing
director for
IT and interactive media development firms, including TouchVision
Interactive
and Digital Boardwalk Inc. providing leadership to project teams
from
pre-contract through deployment, while assisting with business
and process
development. As the managing director of Jamison/Gold (Keane Interactive),
he
provided leadership to all departments including operations, production,
technology, sales, marketing, administration, recruiting, and finance.
Mr. Love
holds a Series 3 license and is registered with the NFA as an Associated
Person
of the General Partner. He holds a BFA in cinema-television from
the University
of Southern California. Mr. Love is 36 years old.
John
T. Hyland,
CFA acts as a Portfolio Manager and as the Chief Investment
Officer for
the General Partner. Mr. Hyland is employed by the General Partner.
He
registered with the NFA as an Associated Person of the General
Partner in
December 2005, and as a Principal of the General Partner in January
2006. Mr. Hyland became the Portfolio Manager for USOF, USNG, US12OF
and USG in April 2006, March 2007, June 2007 and April 2007, respectively,
and
as Chief Investment Officer of the General Partner, acts in such
capacity on
behalf of USOF, USNG, US12OF and USG. He is also expected to become
the Portfolio Manager for USHO and US12NG. As part of his responsibilities
for USNG, USOF, US12OF and USG, Mr. Hyland handles day-to-day trading,
helps set
investment policies, and oversees USNG’s, USOF’s, US12OF’s and USG's activities
with its futures commission brokers, custodian-administrator, and
marketing
agent. Mr. Hyland has an extensive background in portfolio management
and
research with both equity and fixed income securities, as well
as in the
development of new types of complex investment funds. In July 2001,
Mr. Hyland
founded Towerhouse Capital Management, LLC, a firm that provides
portfolio
management and new fund development expertise to non-U.S. institutional
investors. Mr. Hyland has been, and remains, a Principal and Portfolio
Manager
for Towerhouse. From July 2001 to January 2002, Mr. Hyland was
the Director of
Global Property Securities Research for Roulac International, where
he worked on
the development of a hedge fund focused on global real estate stocks.
From 1996
through 2001, Mr. Hyland was the Director of Securities Research
and Portfolio
Manager for the capital markets division of CB Richard Ellis, a
global
commercial real estate services firm. His division provided portfolio
management
of equities as an advisor or sub-advisor for mutual funds and separate
accounts
focused on real estate investment trusts. In addition, his group
conducted
research in the area of structured commercial real estate debt
(including
Commercial Mortgage-Back Securities, or “CMBS”), and lead the creation of one of
the earliest re-securitizations of multiple CMBS pool tranches
into a
Collateralized Debt Obligation vehicle. In the ten years prior
to working at CB
Richard Ellis, Mr. Hyland had worked as a portfolio manager or
financial
representative for several other investment firms and mutual funds.
Mr. Hyland
received his Chartered Financial Analyst (“CFA”) designation in 1994. From 1993
until 2003, Mr. Hyland was on the Board of Directors of the Security
Analysts of
San Francisco (“SASF”), a not-for-profit organization of investment management
professionals. He served as the president of the SASF from 2001-2002.
Mr. Hyland
is a member of the CFA Institute (formerly AIMR). He is also a
member of the
National Association of Petroleum Investment Analysts, a not-for-profit
organization of investment professionals focused on the oil industry.
He serves
as an arbitrator for FINRA, as part of their dispute resolution
program. He is a
graduate of the University of California, Berkeley and received
a BA in
political science/international relations in 1982. Mr. Hyland is
48 years
old.
74
The
following individuals serve as independent directors of the General
Partner.
Peter
M.
Robinson has been an Independent Director of the General Partner since
September 30, 2005 and, as such, serves on the board of directors
of the General
Partner, which acts on behalf of USNG, USOF, US12OF and USG and will
serve on behalf of US12NG and USHO, if such funds commence operations.
Mr.
Robinson has been employed as a Research Fellow with the Hoover Institution
since 1993. Mr. Robinson graduated from Dartmouth College in 1979
and Oxford
University in 1982. Mr. Robinson spent six years in the White House,
serving
from 1982 to 1983 as chief speechwriter to Vice President George
Bush and from
1983 to 1988 as special assistant and speechwriter to President Ronald
Reagan.
After the White House, Mr. Robinson received an MBA from the Stanford
University
Graduate School of Business. Mr. Robinson then spent a year in New
York City
with Fox Television. He spent a second year in Washington, D.C.,
with the SEC,
where he served as the director of the Office of Public Affairs,
Policy
Evaluation, and Research. Mr. Robinson has also written three books
and has been
published in the New York
Times, Red Herring, and Forbes
ASAP and he is the
editor of Can Congress Be
Fixed?: Five Essays on Congressional Reform (Hoover Institution Press,
1995). Mr. Robinson is 50 years old.
Gordon
L.
Ellis has been an Independent Director of the General Partner since
September 30, 2005 and, as such, serves on the board of directors
of the General
Partner, which acts on behalf of USNG, USOF, US12OF and USG and will
serve on behalf of US12NG and USHO, if such funds commence operations. Mr.
Ellis has been Chairman of International Absorbents, Inc. since July
1988,
President and Chief Executive Officer since November 1996 and a Class
I Director
of the company since July 1985. Mr. Ellis is also a director of Absorption
Corp., International Absorbents, Inc.’s wholly-owned subsidiary. Mr. Ellis is a
director/trustee of Polymer Solutions, Inc., a former publicly-held
company that
sold all of its assets effective as of February 3, 2004 and is currently
winding
down its operations and liquidating following such sale. Mr. Ellis
is a
professional engineer with an MBA in international finance. Mr. Ellis
is 60
years old.
Malcolm
R. Fobes
III has been an Independent Director of the General Partner since
September 30, 2005 and, as such, serves on the board of directors
of the General
Partner, which acts on behalf of USNG, USOF, US12OF and USG and will serve
on behalf of US12NG and USHO, if such funds commence operations. Mr. Fobes
is the founder, Chairman and Chief Executive Officer of Berkshire
Capital
Holdings, Inc., a California-based investment adviser registered
under the
Advisers Act, that has been sponsoring and providing portfolio management
services to mutual funds since 1997. Since 1997, Mr. Fobes has been
the Chairman
and President of The Berkshire Funds, a mutual fund investment company
registered under the 1940 Act. Mr. Fobes also serves as portfolio
manager of the
Berkshire Focus Fund, a mutual fund registered under the 1940 Act,
which
concentrates its investments in the electronic technology industry.
From April
2000 to July 2006, Mr. Fobes also served as co-portfolio manager
of The Wireless
Fund, a mutual fund registered under the 1940 Act, which concentrates
its
investments in companies engaged in the development, production,
or distribution
of wireless-related products or services. In these roles, Mr. Fobes
has gained
extensive experience in evaluating and retaining third-party service
providers,
including custodians, accountants, transfer agents, and distributors.
Mr. Fobes
was also contributing editor of Start a Successful Mutual Fund: The
Step-by-Step
Reference Guide to Make It Happen (JV Books, 1995). Prior to forming
Berkshire
Capital Holdings, Inc., Mr. Fobes was employed by various technology-related
companies, including Adobe Systems, Inc., a leading provider of digital
publishing and imaging software technologies. Mr. Fobes holds a B.S.
degree in
Finance and Economics from San Jose State University in California.
Mr. Fobes is
43 years old.
The
following are individual principals, as that term is defined in CFTC
Rule 3.1,
for the General Partner: Melinda Gerber, the Gerber Family Trust,
Howard Mah,
Andrew Ngim, Robert Nguyen, Peter Robinson, Gordon Ellis, Malcolm
Fobes, John
Love, and John Hyland. These individuals are principals due to their
positions,
however, Nicholas Gerber and Melinda Gerber are also principals due
to their
controlling stake in Wainwright. None of the principals owns or has
any other
beneficial interest in USNG. Nicholas Gerber and John Hyland make
trading and investment decisions for USNG. Nicholas Gerber, John
Love, and John
Hyland execute trades on behalf of USNG. In addition, Nicholas Gerber,
John
Love, John Hyland and Robert Nguyen are registered with the CFTC
as Associated
Persons of the General Partner and are associate members of the
NFA.
Audit
Committee
The
General Partner has an audit committee which is made up of the three
independent
directors (Peter M. Robinson, Gordon L. Ellis, and Malcolm R. Fobes
III). The
audit committee is governed by an audit committee charter that is
posted on
USNG’s website. The
Board
has not made a determination as to whether any of the members of
the audit
committee may be considered to be an “Audit Committee Financial Expert” as such
term is defined in Item 407(d)(5) of Regulation S-K. However, the
Board believes
that Messrs. Fobes and Ellis are able to read and understand financial
statements and meet the financial sophistication requirements of
the AMEX and
applicable FINRA rules as they relate to audit committees. As such,
given the
limited scope of USOF’s activities and the qualifications and experience of all
of the members of the audit committee, the board of directors does
not believe
it is necessary to designate a member of the audit committee as an
“Audit
Committee Financial Expert.”
Other
Committees
Since
the
individuals who perform work on behalf of USNG are not compensated
by USNG, but
instead by the General Partner, Ameristock or ALPS Distributors,
Inc., USNG does
not have a compensation committee. Similarly, since the Directors
noted above
serve on the board of directors of the General Partner, there is
no nominating
committee of the board of directors that acts on behalf of USNG.
75
Code
of Ethics
The
General Partner of USNG has adopted a Code of Business Conduct
and Ethics (the
“Code of Ethics”) that applies to its principal executive officer, principal
financial officer, principal accounting officer or controller,
or persons
performing similar functions, and also to USOF, US12OF, USNG,
USG, USHO and
US12NG. USNG has posted the text of the Code of Ethics on its website
at www.unitedstatesnaturalgasfund.com. USNG intends to disclose any
amendments or waivers to the Code of Ethics applicable to the
General Partner’s
principal executive officer, principal financial officer, principal
accounting
officer or controller, or persons performing similar functions,
on its
website. A copy of the Code of Ethics has been filed with the
SEC.
|
Executive
Compensation.
|
Compensation
to the General Partner
and Other Compensation.
USNG
does
not directly compensate any of the executive officers noted above. The
executive officers noted above are compensated by the General Partner for
the work they perform on behalf of USNG and other entities controlled
by the
General Partner. USNG does not reimburse the General Partner, nor
does it set
the amount or form of any portion of the compensation paid to the
executive
officers by the General Partner. USNG pays fees to the General Partner
pursuant
to the LP Agreement, under which the fund is obligated to pay the General
Partner an annualized fee of 0.50% of average daily net assets of
USNG for the
first $1,000,000,000 and 0.20% of average daily net assets of USNG
for amounts
above $1,000,000,000. For the period from April 18, 2007 to December
31, 2007,
USNG paid the General Partner aggregate fees of $1,239,862.
Director
Compensation
The
following table sets forth compensation earned during the period
from April 18,
2007 to December 31, 2007, by the Directors of the General
Partner.
|
|
|
|
|
|
|
|
|
|
|
Change
in
|
|
|
|
|
|
|||||||
|
|
|
|
|
|
|
|
|
|
|
Pension
|
|
|
|
|
|
|||||||
|
|
|
|
|
|
|
|
|
|
|
Value
and
|
|
|
|
|
|
|||||||
|
|
|
Fees
|
|
|
|
|
|
|
|
Nonqualified
|
||||||||||||
|
Earned
or
|
|
|
|
|
|
Non-Equity
|
|
Deferred
|
|
|
|
|
|
|||||||||
|
|
|
Paid
in
|
|
Stock
|
|
Option
|
|
Incentive
Plan
|
|
Compensation
|
|
All
Other
|
|
|
|
|||||||
|
Name
|
|
Cash
|
|
Awards
|
|
Awards
|
|
Compensation
|
|
Plan
|
|
Compensation
(1)
|
|
Total
|
||||||||
|
Management
Directors
|
||||||||||||||||||||||
|
Nicholas
Gerber
|
$
|
0
|
NA
|
NA
|
NA
|
$
|
0
|
$
|
0
|
$
|
0
|
|||||||||||
|
Andrew
F. Ngim
|
$
|
0
|
NA
|
NA
|
NA
|
$
|
0
|
$
|
0
|
$
|
0
|
|||||||||||
|
Howard
Mah
|
$
|
0
|
NA
|
NA
|
NA
|
$
|
0
|
$
|
0
|
$
|
0
|
|||||||||||
|
Robert
L. Nguyen
|
$
|
0
|
NA
|
NA
|
NA
|
$
|
0
|
$
|
0
|
$
|
0
|
|||||||||||
|
Independent
Directors
|
||||||||||||||||||||||
|
Peter
M. Robinson
|
$
|
0
|
NA
|
NA
|
NA
|
$
|
0
|
$
|
89,000
|
$
|
89,000
|
|||||||||||
|
Gordon
L. Ellis
|
$
|
0
|
NA
|
NA
|
NA
|
$
|
0
|
$
|
88,000
|
$
|
88,000
|
|||||||||||
|
Malcolm
R. Fobes III
|
$
|
0
|
NA
|
NA
|
NA
|
$
|
0
|
$
|
109,000
|
$
|
109,000
|
|||||||||||
(1)
Payments made under this column represent cash payments made in lieu
of
directors’ and officers’ insurance coverage. Such payments were made only to the
Independent Directors of the General Partner for their service on
the boards of
USOF, USNG and US12OF.
76
|
Security
Ownership of Certain
Beneficial Owners and Management and Related Stockholder
Matters.
|
None
of
the directors or executive officers of the General Partner, nor the
employees of
USNG own any units of USNG. The
following table sets forth information regarding the beneficial ownership
of
USNG’s units by each person or entity known to it to be the beneficial owner
of
more than 5% of its outstanding units as of March 13, 2008. The
information in the table is presented as of December 31, 2007 and is based
solely on a Schedule 13G filed with the SEC on March 7, 2008 by FMR LLC
(“FMR”) on behalf of
itself and affiliated
persons and entities.
|
Name
and Address of Beneficial Owner
|
Amount
and
Nature
of
Beneficial
Ownership
|
Percent
of
Class
|
|
FMR
LLC
82
Devonshire Street
Boston,
MA 02109
|
1,364,647*
|
12.636%
|
|
*
|
FMR
has reported that it does not have sole voting authority
over any units
and that it has sole dispositive authority over 1,364,647
units. Pursuant
to the Schedule 13G,
Fidelity
Management & Research
Company (“Fidelity”), a
wholly-owned
subsidiary of FMR,
beneficially owns 1,364,647 units (for
which Edward
C. Johnson 3d and FMR, through
its control of Fidelity, have sole dispositive authority)
as a result of
its acting as investment
adviser
to various
investment companies
registered under the 1940
Act.
|
|
Certain
Relationships and
Related Transactions, and Director
Independence.
|
USNG
has and will continue to have certain
relationships with the General Partner and its affiliates. However, there
have been no direct financial transactions between USNG and the directors
or
officers of the General Partner that have not been disclosed herein. See
"Item 11. Executive Compensation" and "Item 12. Security Ownership
of Certain
Beneficial Owners and Management and Related Stockholder Matters."
Any
transaction with a related person that must be disclosed in accordance
with SEC
Regulation S-K item 404(a), including financial transactions by USOF
with
directors or executive officers of the General Partner or holders of
beneficial
interests in the General Partner or USOF of more than 5%, will be subject
to the
provisions regarding "Resolutions of Conflicts of Interest; Standard
of Care" as
set forth in Section 7.7 of the LP Agreement and will be reviewed and
approved
by the audit committee of the General Partner.
|
Principal
Accountant Fees and
Services.
|
During
the period from April 18, 2007 to December 31, 2007, the General
Partner made
the following payments to its independent auditors:
|
2007
|
2006
|
|||||
|
Audit
fees
|
$
|
75,000
|
$ |
44,000
|
||
|
Audit-related
fees
|
|
-
|
-
|
|||
|
Tax
fees
|
|
-
|
-
|
|||
|
All
other fees
|
|
-
|
-
|
|||
|
$
|
75,000
|
$ |
44,000
|
Audit
fees consist of fees paid to Spicer Jeffries LLP for (i) the audit of
USNG’s annual financial statements included in the Annual Report on Form
10-K,
and review of financial statements included in the Quarterly Reports
on Form
10-Q and filed on USNG's current reports on Form 8-K; and (ii) services
that are normally provided by the Independent Registered Public Accountants
in
connection with statutory and regulatory filings of registration
statements.
Tax
fees
consist of fees paid to Spicer Jeffries LLP for professional services
rendered
in connection with tax compliance and partnership income tax return
filings.
The
audit
committee has established policies and procedures which are intended
to control
the services provided by USNG’s independent auditors and to monitor their
continuing independence. Under these policies and procedures, no
audit or permitted non-audit services (including fees and terms
thereof), except
for the de minimis
exceptions for non-audit services described in Section 10A(i)(1)(B)
of the
Exchange Act, may be undertaken by USNG’s independent auditors unless the
engagement is specifically pre-approved by the audit committee. The
audit committee may form and delegate authority to subcommittees
consisting of
one or more members when appropriate, including the authority to
grant
pre-approvals of audit and permitted non-audit services, provided
that decisions
of such subcommittee to grant pre-approvals must be presented to
the full audit
committee at its next scheduled meeting.
77
|
Exhibits
and Financial
Statement
Schedules.
|
|
1.
|
See
Index to Financial Statements on page 61.
|
|
2.
|
No
financial statement schedules are filed herewith because
(i) such
schedules are not required or (ii) the information required
has been
presented in the aforementioned financial statements.
|
|
3.
|
Exhibits
required to be filed by Item 601 of Regulation
S-K.
|
Listed
below are the exhibits which are filed or furnished as part of this
annual
report on Form 10-K (according to the number assigned to them in
Item 601 of
Regulation S-K):
|
Exhibit
Number
|
Description
of
Document
|
|
|
3.1*
|
Second
Amended and
Restated Agreement of Limited Partnership.
|
|
|
3.2**
|
Certificate
of Limited
Partnership of the Registrant.
|
|
|
10.1***
|
Form
of Initial
Authorized Purchaser Agreement.
|
|
|
10.2****
|
Form
of Marketing
Agent Agreement.
|
|
|
10.3****
|
Form
of
Custodian
Agreement.
|
|
|
10.4****
|
Form
of Administrative
Agency Agreement.
|
|
| 10.5***** | License Agreement. | |
| 14.1****** | Code of Ethics. |
|
|
||
|
|
||
|
|
||
|
|
||
*
Incorporated by reference to Registrant's Current Report on Form
8-K filed on
December 7, 2007.
**
Incorporated by reference to Registrant's Registration Statement
on Form S-1
(File No. 333- 137871) filed on October 6, 2006.
***
Incorporated by reference to Registrant's Pre-Effective Amendment
No. 2 to
the Registration Statement on Form S-1 (File No. 333- 137871) filed
on March 9,
2007.
****
Incorporated by reference to Registrant's Pre-Effective Amendment
No. 1 to
the Registration Statement on Form S-1 (File No. 333- 137871) filed
on December
22, 2006.
*****
Incorporated by reference to Registrant's Quarterly Report on Form
10-Q for the
Quarter ended March 31, 2007, filed on June 1, 2007.
****** Filed
Herewith
*******
Furnished
Herewith
78
Pursuant
to the requirements of Section 13 or 15(d) 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 Natural Gas Fund, LP (Registrant)
By:
Victoria Bay Asset Management, LLC, its general partner
|
|
/s/
Nicholas D. Gerber
|
|
Nicholas
D.
Gerber
|
|
Chief
Executive Officer of
Victoria
Bay Asset
Management, LLC
(Principal
executive
officer)
|
|
DateDate:
March 26, 2008
|
| /s/ Howard Mah |
|
Howard
Mah
|
|
Chief
Financial Officer
of
Victoria Bay
Asset Management, LLC
(Principal
financial and
accounting officer)
|
|
DateDate:
March 26, 2008
|
79
Pursuant
to the requirements of
the Securities Exchange Act of 1934, this Report has been signed below
by the
following persons on behalf of the Registrant in the capacities and
on the dates
indicated.
| Signature | Title (Capacity) | Date |
| /s/ Nicholas D. Gerber | Management Director | March 26, 2008 |
| Nicholas D. Gerber | ||
| /s/ Howard Mah | Management Director | March 26, 2008 |
| Howard Mah | ||
| /s/ Andrew Ngim | Management Director | March 26, 2008 |
| Andrew Ngim | ||
| /s/ Robert Nguyen | Management Director | March 26, 2008 |
| Robert Nguyen | ||
| /s/ Peter M. Robinson | Independent Director | March 26, 2008 |
| Peter M. Robinson | ||
| /s/ Gordon L. Ellis | Independent Director | March 26, 2008 |
| Gordon L. Ellis | ||
| /s/ Malcolm R. Fobes III | Independent Director | March 26, 2008 |
| Malcolm R. Fobes III |
80