Is the Bear Market in Natural Gas Finally Running Out of Steam?
Fundamentals
Natural Gas futures have been mired in an over two-year-long bear market, as it appears that this commodity has been impacted by lower industrial demand tied to the economic slowdown as well as increased production out of shale rock formations. This double-whammy has sent prices down over three-fold since highs were made back in July of 2008. However, there are some signs that prices may be ready to at least stabilize just above the 4.000 area. Recent weather forecasts calling for above normal temperatures in the eastern half of the U.S. have lent some support to cash prices, as warmer weather can contribute to increased Natural Gas demand from electric utilities to meet expected increases in cooling demand. In addition, the month of September is traditionally the peak of the Atlantic storm season, when many traders normally try to build a "risk premium" into Natural Gas prices, should a tropical storm threaten Gas production in the Gulf of Mexico. Prices got a bit of a boost on Thursday, as the Energy Information Administration reported that Natural Gas injections totaled 73 billion cubic feet (bcf) last week, which is slightly below the 78 bcf most analysts were anticipating. Although prices have stabilized, large speculative accounts continue to hold a very large net-short position, with the most recent Commitment of Traders report showing large non-commercial traders holding a net-short position of 118,355 contracts as of September 14th. Although this large net-short position has been trimmed a bit, it appears that there is little fresh buying occurring, and that any recent price gains have been due to short-covering. With current Gas inventories over 6% above the 5-year average, unless we see Gas drillers curtail production or real growth in industrial demand, it may be difficult for prices to sustain a rally and finally put an end to this historic bear market.
Trading Ideas
Traders looking for Natural Gas futures prices to begin stabilizing but who don't expect a major price move upward may wish to explore trading strategies that would take advantage of steady or slightly rising prices. One such trading strategy would be to sell puts using Natural Gas futures options. An example of this trade would be selling the November Natural Gas 3.500 puts. With November Gas trading at 4.158 as of this writing, the 3.500 puts could be sold for about0.030, or $300 per option, not including commissions. The premium received would be the maximum potential profit on the trade and would be realized at option expiration in late October should the November futures be trading above 3.500. Given the potential risk involved in selling naked options, traders should have an exit strategy in place should the position move against them. One such strategy might be to buy back the short options before expiration should the November futures trade below recent lows at 3.971.
Technicals
Looking at the daily chart for November Natural Gas, we notice prices hovering near the 20-day moving average. It appears that several attempts by Gas bears to send prices below 4.000 have been stymied and might be behind the small bouts of short-covering buying seen by weak bears. There is a bullish divergence forming in the 14-day RSI, which may be a sign that downward momentum is beginning to wane. Now that prices seem to be range bound, technical traders would likely want to see a close above recent highs at 4.298 to become short-term bullish, and a close below support at 3.971 to lead towards a bearish stance.
Mike Zarembski, Senior Commodity Analyst
