Cold Weather and a Warming Economic Forecast are Starting to Heat up Natural Gas Futures
Fundamentals
With winter still nearly two weeks away, a below-normal temperature forecast for the central and eastern portions of the US have spurred renewed buying interest in Natural Gas futures. The most active January contract has once again moved above the $5.00 level, triggering speculative buy stops as weak shorts run for the exits. This has been the story for Natural Gas futures all year, as weak industrial demand combined with ample U.S. production has sent Gas storage levels soaring. As of November 27th, over 3.8 trillion cubic feet of Gas was in storage, or 14.5% above the 5-year average. Besides small rounds of short-covering buying, there has been little in the way of any meaningful rally attempts all year, as the weak fundamentals have kept Gas bears in charge. The most recent Commitment of Traders report shows large non-commercial traders (commodity and hedge funds) holding a net-short position of 71,431 contracts as of December 1st. Although this is down over 7,000 contracts for the week, it may take a weekly close above the 100-day moving average to really shake the funds out of their short positions. Last Friday's better than expected non-farm payrolls report put an abrupt end to the current downtrend, as any signs that the employment picture is improving could lead to an uptick in industrial demand, which is desperately needed to help absorb the large amounts of Gas in storage. Private weather forecasters are calling for below normal temperatures in the Midwest and on the east coast for the next two weeks, which should officially start the winter withdrawal season for Gas in storage. Traditionally, November 1st is considered the starting point, when Gas is removed from storage to meet increased demand from utilities for heating. However, as of last week we were still seeing Gas being placed in storage, a modest 2 bcf build according to the EIA, which helped to move prices to contract lows to end the week. Now that the first real cold snap is expected to reach the Chicago area on Thursday, following a moderate snowstorm expected in the Great Lakes region, thoughts of winter finally arriving will fill traders' heads, and we could start to see trading activity in Natural Gas futures begin to heat up!
Trading Ideas
The upcoming start of winter combined with signs that the worst of the recession is, indeed, behind us could be a signal that the near-term lows in Natural Gas futures may be in place. With less than 3 weeks to expiration, some aggressive traders may wish to explore selling January Natural Gas put options with strike prices below the current contract lows of 4.432. An example of this trade would be selling the January Natural Gas 4.3 puts. With the January futures trading at 5.124 as of this writing, the 4.3 puts could be sold for 0.026, or $260 per option, not including commissions. The premium received is the maximum gain on the trade, and given the risk involved in selling naked options, careful risk management is essential. Traders may wish to consider exiting the trade if the January futures close below major support at 4.432 before the January options expire on December 28th.
Technicals
Looking at the daily chart for January Natural gas, we notice prices accelerated to the upside after Friday's positive Non-Farm Payrolls report sparked a rally in Natural Gas futures, in the belief that better industrial demand could occur. Technically, the failure to take-out the contract lows made on Thursday, tied to a relatively large net-short position by large speculative traders, set-up an ideal scenario for a short-covering rally to start the week. However, there are still some technical obstacles ahead before bulls can really start to get the upper hand. First is near-term resistance seen at the recent highs of 5.192 made on November 30th. Should this barrier be taken-out, the 100-day moving average looms near the 5.400 area. The 14-day RSI is showing a bullish divergence, as this key indicator failed to make a new lower reading last Thursday, when contract lows were made.
Mike Zarembski, Senior Commodity Analyst
