Natural gas fundamentals bearish

Quote of the Day

“To succeed in life, you need three things: a wishbone, a backbone and a funnybone.”

Reba McEntire

After a day when investor/traders seemingly spent the entire day short covering and bottom picking in equities, currencies and energy markets we seem to now be back to a pattern we have been in for the last several months — driven by fear, uncertainty and negative. This week’s round of fundamentals reports turned out to all to be biased to the bearish side with the monthly EIA Short Term Energy Outlook mostly neutral for oil and Nat Gas markets. On top of a bearish Nat Gas inventory report (more discussion below) the tropical weather activity in the Gulf of Mexico is a non event for Nat Gas production in the short term with little prospects for any new storms over the next 48 hours. In addition the latest forecast by NOAA is calling for a cool down over the next 6 to 10 days with only a few pockets of above normal temperatures but a return to hotter than normal temperatures over a more widespread area of the country during the next 8 to 14 days. Interestingly even though the temps were soaring over the last week or so across major portions of the US Nat Gas inventories still built more than projected.

EMI QuickView Short Term Market Overview

Impact on Energy Prices

Price Drivers

Nat Gas

Crude

Supply

CBr

Cbr

Demand

N

N

Inventories

CBr

Cbr

Cooling/Heating Weather

CBu

N

Tropical Weather

N

N

Global Equities

N

N

Geopolitics

CBu

CBu

Technicals

N

N

Market Sentiment

N

N

Overall View

N

N

Bias

N

N

N - Neutral Bu - Bullish Br- Bearish

CBr - Cautiously Bearish CBu - Cautiously Bullish

Speaking of inventories today’s report was more than disappointing to the bulls. As shown in the following table Nat Gas stocks built across the board with the largest build appearing in the Consuming East region which was probably the hottest of all areas of US last week. Total stocks are still 11.5% or 207 BCF above the five year average for the same week but 0.8% or 23 BCF below last year at this time. Total Nat Gas consumption in the US is currently expected to average about 57 BCF/day (EIA data) for the month of July. With 78 BCF injected into inventory for last week that represents an average of about 11 BCF of NG heading into storage suggesting that current supply is outstripping demand by about 19%...again during a week when the temps were above normal.

Daily Hedger Nat Gas in Working Storage for Week Ending 7/2/10

Billions of Cubic Feet (BCF)

Current

Last WK

Last Yr

Five Year

Diff. Vs.

Diff vs.

Diff vs.

07/02/10

06/25/10

07/03/09

Average

Last Wk

Last Yr

Last Yr

Regions

East Consuming

1341

1293

1340

1277

48

1

16

West Consuming

459

448

434

366

11

25

82

Producing

962

943

1011

834

19

(49)

109

Total US (Lower 48)

2762

2684

2785

2477

78

(23)

207

Data Source EIA

At the current rate of injection my model is projecting Nat Gas stocks to hit record high levels prior to the start of the upcoming winter heating season as shown in the following chart. Since the end of the last heating season Nat Gas stocks have been building at a stronger pace than last year as well as the five year average. This has occurred even though year over year consumption of Nat Gas in the US has increased by about 2.8 BCF/day or 4.3% for the first half of 2010 versus the same period in 2009. So yes all of the perception trader/investors projection of demand increasing as a result of the economic recovery have been on the money but the problem that still exists in the overall Nat Gas market is production continues to outstrip demand. Unless we experience a colder than normal winter season Nat Gas stocks will once again serve as a cap on any sustained price spike in Nat Gas prices this coming winter and likely beyond.

Click on chart to enlarge

On a positive note Nat Gas prices are still lagging other areas of the world starting with gas prices in the UK. Basis current currency rates the ICE UK Nat Gas contract is trading almost the equivalent of $2/mmbtu above the spot Nymex price. With landed LNG into the UK only about $0.60/mmbtu above the landed cost in the US it is highly unlikely we will see any surge in imported LNG into the US anytime soon. The arb window is pointing toward the UK and greater European markets as well as into Asia. In fact in the latest EIA STEO report has downgraded its forecast of imports of LNG into the US by 0.14 BCF/day versus last month’s forecast.

However, overall domestic supply is still projected to grow steadily this year. The EIA STEO is forecasting a net increase in natural gas production of 1.3 BCF/day over 2009 levels. Projected Gulf of Mexico production is set to decline by about 10% in for both 2010 and 2011 as result of hurricane outages, the announced Federal moratorium on offshore drilling and the decline in active rigs over the last 4 years. However on shore production mostly form shale deposits are expected to more than offset any of the above projected declines in the Gulf.

So how do we digest all of the latest fundamental data along with everything that is evolving in the financial sector insofar as where prices are expected to go. Overall I look at the fundamentals as still biased to the bearish side. At a minimum the fundamentals can be viewed as being the upper cap or ceiling on prices for the foreseeable future. Until demand starts to catch up with supply growth and the rate of injection into inventories slows down stocks will continue to hover at above normal levels and ultimately approach sustainable storage capacity limits by the start of the heating season. Barring any major impact from a hurricane or two this season I do not see the current inventory pattern changing over the next 6 months or so.

The weather has been modestly supportive for Nat Gas prices from both a cooling perspective as well as from the projections for an overactive hurricane season. We have already had one bout of much warmer than normal weather in the US this summer as well as several Gulf of Mexico storms...one of which was a hurricane and the season is just getting underway. Neither the hot weather nor the tropical activity to date has had a significant impact on Nat Gas supply or demand and thus on prices. However, it is way too early to view the weather as a non-event for this year. Rather the perception remains positive toward Nat Gas as another bout of hot weather is on the way and the weather conditions continue to remain conducive or favorable to many more hurricanes this season. Both of which have a decent probability of impacting both supply and demand and thus prices if the impact is above normal.

From an economic perspective Nat Gas is not as consistently correlated to the ups and downs of the global equity and currency markets. The following chart compares the spot Nymex Nat Gas contract (black line) to the spot S&P equity futures contract (red line). As shown there have been extended periods of time when Nat Gas prices are positively correlated to the direction of S&P equity market. The S&P or any global equity market for that matter are the forward surrogates for the projected economy. In other words a rising S&P suggests continued growth in the US economy.

Click on chart to enlarge

A growing U.S. economy will ultimately translate to increased manufacturing activity and thus an increase in Natural Gas consumption especially related to the industrial sector. The power and residential sectors are dependent not only on economic growth but also on the outcome of both summer and winter weather conditions. So from a macro perspective Nat Gas prices should be expected to perform better during periods of time when the US economy is growing (and vice versa as shown during the collapse in 2008 and into early 2009). Oversupply and the vagaries of the weather reduce the validity of the correlations as experienced during 2010 so far. With more and more investor/traders now expecting the global economy to slow at best we may be entering another period of time where Nat Gas prices could come under pressure.

From a technical perspective Nat gas prices have been range bound for about the last month and half but with a downside bias that has evolved over the last two weeks. Nat Gas prices peaked at around the $5.25/mmbtu level in mid June and now seem headed for a test of the lower end of the range of about $4.100/mmbtu. The technical pattern currently in place strongly suggests that an intermediate support area is likely to be tested as early as this week (around the $4.30/mmbtu level) and if breached and settled below this level we could see a test of the $4.10/mmbtu range support area as early a next week some time.

There are still some intangibles out there that has attracted interest in Nat Gas from the fund and investment communities. The main intangible is related to the BP disaster in the Gulf of Mexico and what new rules will emerge for offshore drilling and whether or not the government will become a big proponent in pushing Nat Gas into the transportation sector thus displacing diesel fuel. If so the oversupply coming from the prolific onshore shale gas areas could be quickly moved into a more balanced position and ultimately be very supportive for Nat Gas prices in the medium to longer term.

The bearish fundamentals are setting the upper limit on prices for the time being while the projected weather conditions along with the intangibles discussed above will continue to act as the floor on prices over the next few months. Although I believe we will see prices approaching the lower end of the trading range this month the probability of the market price collapsing anytime soon is lower than the probability of prices remaining in the trading range and working their way back toward the upper half of the trading range barring a major collapse in the US economy (which is not likely at this point in time).

My market view is detailed in the table at the beginning of the newsletter along with my view for the oil complex. I am overall neutral for both Nat Gas and oil over the short term. I currently view the current short covering rally in crude oil as being overdone and the decline in Nat gas prices over the last few days as also being a bit overdone. I expect corrective action for both in the short term. From a longer term perspective Nat Gas prices are approaching levels that are becoming more attractive for the commercial or hedging sector and those with buy side exposure should consider initiating or adding to existing hedge portfolios especially if prices approach the lower end of the trading range. Flat price traders should remain small in position size and short term as price reversals can and will happen at any time as the entire energy complex continues to be driven by headlines and macro data.

Nat Gas prices recovered some of the losses from today’s bearish inventory report as shown in the EMI Price Board below. We could see a bit of a recovery in prices on Friday ahead of the weekend as market participants are cautious over the potential for new tropical activity.

Current Expected Trading Range

Expected Trading Range

7/8/10

Change

Low

High End

From

End Support

Resistance

7:23 PM

Yesterday

Aug NYM NG

$4.418

($0.147)

$4.000

$5.000

Sep NYM NG

$4.438

($0.150)

$4.000

$5.000

Aug ICE UK NG

$49.23

$0.71

$45.00

$53.00

Aug WTI

$75.57

$1.50

$70.00

$76.00

Dow Futures

9,994

14

9,500

10,000

US Dollar Index

84.11

0.072

83.100

85.300



Best Regards

Dominick A. Chirichella

This is our inaugural issue of the Natural Gas Market analysis newsletter. I hope you will find this newsletter as interesting to read as I find in writing the newsletter. I will be writing the newsletter with an eye toward how one can make money on the information and not just report the news. Any feedback is always welcomed. You can email me with any of your thoughts at the email address below. Thank you for taking the time to review our exciting new report.

Dominick

dchirichella@mailaec.com

Energy Market Analysis is published daily by the Energy Management Institute 1324 Lexington Avenue, # 322, New York, NY 10128. Copyright 2008. Reproduction without permission is strictly prohibited. Subscriptions: $129 for annual orders. Editor in Chief: Dominick Chirichella, Publisher: Stephen Gloyd, Editor Sal Umek.

EMA has authorized Futures to publish its Natural gas report once a week once the free trial period is over similarly to the Energy report. For information on how to receive the report everyday look below.

PH: (888) 871-1207

Email info@energyinstitution.org

Subscribe here Free Trial Here

Information and opinions expressed in this publication are intended to provide general market awareness. The Energy Management Institute and the Energy Market Analysis are not responsible for any business actions, market transactions, or decisions made by its readers based on information published in this report. Readers of the Energy Market Analysis use this market information at their own risk.

This message and any attachments relate to the official business of the Energy Management Institute ("EMI") and are proprietary to EMI. This e-mail transmission may contain information that is proprietary, privileged and/or confidential and is intended exclusively for the person(s) to whom it is addressed. Any use, copying, retention or disclosure by any person other than the intended recipient or the intended recipient's designees is strictly prohibited.

About the Author
Dominick A. Chirichella

Energy Market Analysis is published daily by the Energy Management Institute 1324 Lexington Avenue, # 322, New York, NY 10128. Copyright 2008. Reproduction without permission is strictly prohibited. Subscriptions: $129 for annual orders. Editor in Chief: Dominick Chirichella, Publisher: Stephen Gloyd, Editor Sal Umek.

EMA has authorized Futures to publish its report once a week on Wednesday prior to the EIA release. For information on how to receive the report everyday look below.

PH: (888) 871-1207

Email info@energyinstitution.org

Subscribe here Free Trial Here

Information and opinions expressed in this publication are intended to provide general market awareness. The Energy Management Institute and the Energy Market Analysis are not responsible for any business actions, market transactions, or decisions made by its readers based on information published in this report. Readers of the Energy Market Analysis use this market information at their own risk.

This message and any attachments relate to the official business of the Energy Management Institute ("EMI") and are proprietary to EMI. This e-mail transmission may contain information that is proprietary, privileged and/or confidential and is intended exclusively for the person(s) to whom it is addressed. Any use, copying, retention or disclosure by any person other than the intended recipient or the intended recipient's designees is strictly prohibited.

Comments
comments powered by Disqus
Check out Futures Magazine - Polls on LockerDome on LockerDome