Trading natural gas as the season changes, and a note about the long-term prospects
UGAZ and DGAZ for those who do not trade futures
Natural gas can be one of the most volatile commodities that trade on the futures market. Since 1990, the price has traded from lows at $1.02 to a high at $15.65 per MMBtu. Over the past three decades, the fundamentals for the natural gas market gave changed dramatically. Discoveries of massive natural gas reserves in the Marcellus and Utica share regions of the US and technological advances in hydraulic fracking increased the supply side of the fundamental equation.
Since necessity is the mother of invention, natural gas has replaced coal in the US for power generation. At the same time, technology to liquefy natural gas has expanded the addressable market for the energy commodity. Natural gas used to depend on the US pipeline network for delivery. Today, it travels around the world in liquid form by ocean vessels. Therefore, the demand side of the fundamental equation in natural gas expanded with the supply side.
The growth of the natural gas market has caused volume and open interest in the future market to explode since 1990. Increased demand for hedging by producers and consumers combined with speculative interests in the market was a bonanza for liquidity. The growth of the market reduced some of the price volatility from the earlier years that took the price north of $10 per MMBtu. Natural gas has not traded above the $10 level since 2008, the $6.50 level since the same year, and above $5 since 2014.
Natural gas is a seasonal commodity. The price tends to peak during the time of the year when inventories decline from mid-November through March. The offseason runs from April through October. With the peak season for demand on the horizon, price volatility is picking up in the natural gas futures market.
The highest price since 2014 last November
Last November, as natural gas was entering the 2018/2019 time of the year when inventories decline, the price of the energy commodity exploded to the upside.
Source: CQG
The monthly chart highlights the price rise from a low at around the $2.70 level during the summer months to a high at $4.929 per MMBtu in November 2018. At the start of the withdrawal season, the total amount of natural gas in storage in the United States rose to only 3.247 trillion cubic feet, the lowest level in years. The low level of stockpiles, uncertainty over the weather and demand for heating over the winter months, and an early cold snap created a perfect bullish storm for the natural gas futures market. The price rose to the highest level since 2014 at the start of the 2018/2019 winter season.
The lowest price since 2016 in August
The November 2018 high ran into selling at just below the $5 per MMBtu level. The demand for natural gas last winter did not send the amount of the energy commodity in storage below the one trillion cubic feet level. At the end of last winter, stocks fell to a low at 1.107 tcf. However, the price started dropping in December and posted eight consecutive months of losses.
Technical support for the natural gas market was at the $2.53 per MMBtu level, which was the low from February 2018. During the same month in 2017, natural gas fell to a bottom for the year at $2.522, so it appeared to put in a higher low. In February 2019, the trend seemed to continue as the low for the month was at $2.543 per MMBtu. However, in April, it moved through the 2018 and 2017 and kept on falling.
In August natural gas futures found a bottom at $2.029 per MMBtu, the lowest level since 2016 when the price fell to $1.611 per MMBtu, the lowest level since 1998. A warm winter and high levels of inventories drove the price to the lowest level of this century.
A technical break to the upside
After the early August low in the natural gas futures market, a recovery got underway.
Source: CQG
The weekly chart illustrates that the low during the week of August 5 led to a rally that took the price higher in five of the last six weeks. The rally got some fuel as Hurricane Dorian approached the US in late August. Even though the storm did most of its damage in the Bahamas, the price of the energy commodity continued to gain. Another sign that natural gas was heading higher was that the inventory report from the EIA as of August 30 was bearish as the injection was higher than market expectations. When a market has reasons to move lower, and it continues to rise, it is a sign that the path of least resistance for the price is higher.
The level of critical support at the 2017 and 2018 lows at $2.53 and $2.522 gave way in April 2019, and the support levels became technical resistance when the price of the energy commodity traded to just over the $2 level in early August. Last week, natural gas took out those levels in post-summer trading and rose to a high at $2.648 per MMBtu. The October futures contract settled the week at $2.614, not far below the high of the week and well above the level of resistance at $2.53.
Trading natural gas as the season changes, and a note about the long-term prospects
As August gave way to September, the natural gas market that it is just a matter of time until cold weather descends over broad areas of the US and inventories begin to decline. As of the week ending on September 6, the total amount of natural gas in storage across the US stood at 3.019 tcf, 15% above last year’s level, but 2.5% below the five-year average for this time of the year according to the EIA.
Natural gas stocks will rise to a higher level than last year when the withdrawal season begins in mid-November, as stocks are likely to peak at the 3.7-3.8 tcf level. With nine weeks to go in the injection season, stocks are not likely to increase to a record level above the four trillion cubic feet level.
The weather conditions over the coming winter months will be the primary factor when it comes to the price path of the commodity. However, the uncertainty of the season is likely to create at least one significant rally over the coming months. The highest price for natural gas futures during the coming winter months was for the January futures contract which was at just over the $2.90 level after the recent rally.
The price of natural gas moved 58.5 cents per MMBtu higher since the early August low as of last Friday or 28.8%. The rally may have come a bit too early as we are only in the middle of September and the withdrawal season will not arrive until mid-November. Therefore, we should expect two-way volatility to increase over the coming days and weeks in the always volatile natural gas futures market.
When it comes to the longer-term direction of the price of natural gas, a comment by a candidate for President could cause a shift in expectations over the coming year. Senator Elizabeth Warren has said that she would end fracking in the US on the first day of her administration if elected. Since the US is now the Saudi Arabia of the natural gas market and has replaced Saudi Arabia as the world’s top oil-producing nation we could see lots of volatility in oil and gas prices if a significant amount of global supplies are impacted by a shift in US energy policy starting in early 2021. The reelection of the incumbent president would ensure a continuation of the US’s role as the leading producer of the two energy commodities. However, if Senator Warren’s energy proposal winds up in the platform of the Democratic party candidate, we could see a significant price reaction in all energy-related assets.
UGAZ and DGAZ for those who do not trade futures
When it comes to the short-term prospects for the natural gas market, we are entering into a time of the year when volatility tends to increase. The recent rally may have come a little too early, which means we may see some wider price swings over the coming days and weeks.
Price volatility creates a paradise for nimble traders with their fingers on the pulse of markets. The potential for price variance in the natural gas market makes it the Garden of Eden for opportunities at times. The most direct route for a risk position in the natural gas market is via the futures and future options that trade on the NYMEX division of the CME. For those who do not venture into the leveraged and volatile futures arena, the VelocityShares 3x bullish and bearish ETN products [ (UGAZ[ARCA] - $23.68 ) and (DGAZ[ARCA] - $86.92 )] provide an alternative.
I would be a scale-down buyer of any price corrections over the coming weeks leading into the winter season. Natural gas is a market that offers volatility, and now is the time to put the energy commodity on your trading radar.
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