After researching last week's trading in Natural Gas, it would appear that the commodity rallied due to the actions of manipulation, and a hefty short squeeze, rather than through an equilibrium price discovery by buyers and sellers.
Case in point, Thursday's 4% jump from news that injections were 2 mmBtu less than average analyst expectations were suprising in terms of the market's reaction. This chart was taken from the CME's website. Minutes after the EIA released data regarding net injections of Natural Gas in working supply, the commodity shot up from 4.17 to 4.31. This was in part due to 30,000 contracts trading hands within a matter seconds. It is most likely that the majority of these contracts were buy orders by a single entity. What incurred afterwords was a massive short squeeze in which traders that were originally short natural gas bought the commodity back to close their position, thereby raising the price further.
The following table reveals that the volume of trades for May 13 contracts spiked to 233,935, while open interest decreased by 20,186. Although, volume on Thursday increased substantially from the previous days, this may reflect the actions of shorts sellers covering their positions since interest in opening positions in May 13 contracts decreased by the largest amount during the week.
What is more interesting is that the increase in open interest for Jun 13 contracts increased by a meager 7606 contracts. The increase in open interest for Jun 13 contracts has been slowing since the beginning of the week. Intution would say that with such a strong move upward in the price of natural gas, there would be a flood of buyers opening positions for the following month, but that was hardly the case with open interest increasing at a rate slower than the previous days.
Open interest for Jun 13 may show signs of leveling off in the next few days. This might reveal that the market no longer has the strong conviction that natural gas prices have further to rise from this point onwards. In fact, this same time during March, open interest for May 13 contracts exceeded 300,000, which is signifigantly larger than the current open interest for Jun 13 contracts.
Fridays trading reveals that open interest is still declining for May 13 contracts, in which Longs are taking money out of the trade. June 13 contracts increased by 3,695 contracts, less than half the increase from Thursday, thus revealing that open interest in Jun 13 contracts is beginning to flatten.
What does declining volume and open interest reveal about the futures market?
While prices may be increasing for Natural gas, a decline in open interest and volume reveals that the strength behind the move is weak, and that the prevailing trend will reverse. This should act as a warning that the uptrend may be soon ending, and not to expect that prices will continue to increase.
To help illustrate this point, I took a chart with open interest and volume from WTI crude, which has experienced a signifigant decline over the past few weeks. What the chart reveals is that the price direction turned negative when open interest flattened and began to decline. As prices increased in early april, open interest had shown signs of decreasing while volume decreased as well. At the point where prices for WTI spiked down, there was a massive increase in volume where longs began covering their positions.
The May 13 Natural Gas chart reveals that open interest and volume have been declining since early April.
But, one may be asking why is it that open interest has been declining while the price has been rising?
One answer may be that open interest will naturally decline as we get closer to the front month. Secondly, around the same time that open interest was beginning to decline, the EIA revealed a massive withdrawal of natural gas from the previous month, and analysts for a major investment bank issued a forecast telling the market to expect average prices to reach 4.50 in the summer.
The conviction behind the strong move upward in natural gas has been quite tepid and does not not seem to involve the wide-spread conviction that natural gas prices are going to continue to increase. Rather, it may just involve the actions of a few injecting large sums of money in contracts at strategic moments to give an impression that the market is valued correctly and that is has more room to go up.
The fundamentals do not justify natural gas prices at these current levels. Currently natural gas prices are priced at around 2025 levels, if you were to go off of the EIA's own forecasts.
The increase in natural gas prices seems likely to reverse itself quite soon. Although, I do not recommend opening up a position to short natural gas until it does start to move down, since the market can be quite irrational, I would not recommend buying natural gas at these levels.
Here is an article released yesterday that cites the Commodities Futures Trading Commission figures. The article notes that speculators cut net long positions by 19% last week, while net shorts increased by 4%. This reveals that market move upward for Natural Gas is slowing down.
Have a nice day.