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DGAZ Headed For Bullish Turn

|Includes:VelocityShares 3x Inverse Natural Gas ETN (DGAZ)

For those who have been short Natural Gas via DGAZ, yesterday provided a nice fall after the great buying opportunity with the spike to 5.7/mmbtu in NG price. Lets take a look at where we are now and where I think we are headed in the near future.

First, let me share my thoughts on Storage, one of the biggest issues that coupled with the severe winter storms we have had across the US have given rise to the bulls and the spike in prices.

Storage Inventory and Withdrawals Q1 2014
  2-Jan 9-Jan 16-Jan 23-Jan 30-Jan 6-Feb 13-Feb 20-Feb 27-Feb 6-Mar 13-Mar 20-Mar 27-Mar Total
Storage begin 2,982 2,825 2,538 2,431 2,193 1,931 1,748 1,591 1,456 1,338 1,233 1,142 1,081  
Withdrawal bcf 157 287 107 238 262 183 157 135 118 105 91 61 33 1934
Storage end 2,825 2,538 2,431 2,193 1,931 1,748 1,591 1,456 1,338 1,233 1,142 1,081 1,048  

Withdrawals
Estimates

Today's storage report to confirm withdrawals for last week, including Thursday, January 30th, the withdrawal came in below the 270 estimate at 262 noted in the table above. As you recall, that week was very cold all week across the vast majority of the US. We have all heard about how the Storage inventory levels for Natural Gas are below the 5-year average and the bulls have driven fear based on demand placing the US in a position of supply disruptions. While there are supply logistics challenges in the Northeast, (an infrastructure challenge estimated to take a few years to resolve), and a report from California today asking people to conserve their use because of constraints, the fears I think are mostly behind us.

I have taken the numbers from the model that is used by the CME Group to populate the table and viewed what they have so far for this week through Wednesday - a milder early week than the past several. Then, I estimated for today and Friday using the highest daily withdrawal numbers from last week since we do have some cold weather across much of the US this week. According to my estimate, the 183 bcf withdrawal estimate in the model is too high and we will more than likely come in closer to 160-162 bcf withdrawal.

Assuming the remainder of the model out through March is reasonably accurate with weather continuing to trend to milder temperatures across the US, then we should not go into April at risk of a major supply disruption based on inventories. Barring another very severe late season storm that blankets the US, I see us as trending lower highs and lower lows on Natural Gas from here.

To address the injections of Storage, I reviewed information from the EIA website. Key information is included in the tables below:

April Estimated Storage 1,100 bcf
5 year average 1,800 bcf
10 year average 1,600 bcf
Nov 1 Estimated Storage 3,500
5 year average 3,800
10 year average 3,600
Injection Season estimate 2,400
5 and 10 year average 2,000

Injections into Natural Gas Storage typically run from April through October in order to prepare for the next winter season. Considering that Natural Gas prices were as recently as August at 3.2/mmbtu and October, 3.4/mmbtu, you can imagine that current producers have some incentive to meet more of the demand requirements at these higher prices and as more supply comes on line, prices will tend to moderate on average. You can see from the table that we certainly will be lower in April Storage than our 5-year and 10-year averages, but estimates are that injections will be 2.4 tcf, achieving by November close to the 10-year and 5-year averages. For consideration of prices in Natural Gas beyond say mid-year this year, we will have to monitor the continued progress on supply, demand and injections.

What is ahead for DGAZ:

Since the sell off following the Storage report today, Natural Gas has traded in a range from 4.9 to 5.04. I will be looking for a trading range we settle into here in the near future, but my best guess at this point is that range may be from 4.7 to 5.1, or as low as 4.4 to 5.0. We still may have the bulls try to mount some rally's that barring any major unexpected news, I would expect to run off quickly and probably not peak at higher than 5.4 - presenting buy opportunities for DGAZ. Of course, all of this is subject to dynamics that certainly could change.

Lets look at the latest DGAZ chart.

Some things to take notice of:

1) RSI has been bottomed out in DGAZ below 30 and now has crossed 30 at 32.02, which is a bullish indicator.

2) Volume has been very high at these low prices in DGAZ which is also bullish.

3) Finally, MACD has not yet confirmed the bullish turn as we don't quite have the crossover, but based on appearance of where we are, this could happen very soon - within the next few trading days unless something unexpected disrupts the trend.

Risks:

Market manipulators could use current cold weather days to drive storage fears, but I think this would be short lived. The bulls could build a concerted effort for one more big push, but they would need something to rally behind. I just don't see anything that would realistically take us far or for long on any bull run as discussed earlier.

I think we have seen the low in DGAZ at 2.50 and will begin to move into a trading range base in DGAZ, along with a trading range in Natural Gas. After some trading opportunities at both ends of that range, I think we will then be heading to higher DGAZ prices.

Disclosure: I am long DGAZ.

Additional disclosure: I may trade and reposition DGAZ shares based on dynamics associated with the Natural Gas Market. I may also trade in and out of UGAZ, or buy/sell calls and puts on BOIL or KOLD (2X Leveraged ETFs on Natural Gas Index).The thoughts and opinions in this article, along with all stock talk posts made by the Author, are my own and are shared on the basis of helping others learn, to provoke other points of view that help us all on our journey to become better investors. My posts are never intended to provide investment advice. Investors should always view multiple sources of information in their due diligence process.

Stocks: DGAZ