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H. T. Love
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Spent over 30 years in computer systems work, many different functions. Owned my own business for awhile. Got tired of it (managing employees is not my baliwick) and stopped doing it professionally. Did other things, off and on, for some more years and finally bumped into this investing/trading... More
  • NG: Draft/Final Work-only Long-term bull, short-term BEAN-O 0 comments
    Jun 4, 2009 12:05 PM

    This article was "finalized" 6/4/2009. Since then, as one would expect, some things have changed and I have also learned more and been "clued in" to some useful information and resources by others. Following is a brief summary of things that might have material affect, either positive or negative, on the original thoughts I had.

    Check the status of the legislation referenced by Michael Fitzsimmons - H.R. 1835: Legislation for Natural Gas Transportation. It's an April 5, 2009 article. We need to follow up on this to see if it's going anywhere.

    Well, all the big banks, and several less-than-big banks are paying back the tarp, for reasons we need not discuss here. This is capital they will not have available to lend to help stimulate the economy, which they were not doing anyway. The capital raises they have done are purely to bolster the balance sheets and we can presume that the same results will be had except that now they can pay themselves and spend on promotion, junkets, etc. as they please without interference from the government (until the new super-regulations, as proposed in an 88 page framework of 6/17/2009 by BOH and to be, as usual, modified by our congress, take effect).

    The dollar entered a short-term nose-dive pattern and oil and commodities began to take off. Lots of folks continued to pile into UNG, expecting NG to take off with oil I suppose. Then the dollar recovered. Here's a summary of what has happened with the dollar and oil since that time to now, 6/19/2009.

    INSERT DOLLAR/OIL CHART FROM STOCKCHARTS.COM HERE.

    During that time NG and UNG continued their devilish behavior.

    INSERT NATURAL GAS/UNG CHART FROM STOCKCHARTS.COM HERE.

    In FuturesTrader's Comments in an article by Jim Letourneau: "Natural Gas ETF Jumps on No News - Turning Point?" it is pointed out that there are no distributions paid by UNG, you get taxed on "contract income" as well as capital gains, 100% of the futures are rolled at expiration each month (incurring fees, selling low and buying high due to contango) without adjusting the UNG share price to account for this (in other words, a built in loss unless there was a price movment in direction and magnitude big enough to offset this), and so UNG does not track NG prices very well.

    The traditional ratio (if there ever was such a thing) of NG/oil price has disintegrated.

    INSERT $WTIC:$NATGAS CHART FROM STOCKCHARTS.COM

    There were unexpectedly large drawdowns in both crude and gasoline reported Wednesday, 6/10, and the market reacted with surprise. I don't understand that because by now everbody has certainly heard about the huge amounts of oil afloat in takers while the big boys do their arbitrage thing on the contango situation.

    As just one sample of ths, check James Pethokoukis' "JPMorgan hires crude tanker to store gasoil -trade". There are other articles on SA that state that Goldman-Sachs has purchased a large quantity of oil futures about the same time the made a call for $85/$95 oil this/next year. I have no reason to doubt any of ths stuff. If you do, I'd be glad to hear of it.

    A concern of which I became aware recently is the action in the treasury bonds. From the chatter on the tube, rising treasury yields imply more than just inflation. It seems that it also indicates a fear of increased risk of default, weakening or aborted recovery in the economy, etc. Why? Well one reason is there is a direct effect on mortgage rates. While the Fed is trying force rates down, the rates are rising. This implies an inability of the Fed to cause further beneficial effects. Rates already at 0, QE done (although the money is just sitting on the banks' balance sheet, improving their capitalization) and what else can the Fed do to kick-start housing, considered an important of the recovery effort.

    This then has the effect of keeping the market from breaking higher, implies continued commodity deflation, etc. So NG and UNG may be under even more pressure than that provided by oversupply situation. It means that the near/intermediate outlook for (rising) demand may not be enough to offset even the anticipated reduction in supply as more shut-ins occur.

    In a comment, tunaman4u2's comment to "Time to Go Long Natural Gas and Short Oil?", asserting manipulation, it is stated "Its usually at its low pre inventory report... dont forget the contracts rolling soon... people dump the front month that don't want to take delivery & pile into month 2 before UNG does". I felt this deserved investigation to see if a pattern similar to what he states could be observed. So I made a chart of the closing price over the last six months and got a schedule of closing dates.

    INSERT FUTURES EXPIRATION DATES AND 180 DAY ANNOTATED UNG CHART.

    Woolyboogur's comment in the same article provides some useful information about energy content vs. price of oil and NG. "On a Btu basis with gas at $4.00 you get about a million Btu whereas with oil at $72.00 per Bbl you pay $12.4 per million Btu". Without radical transformations in the supply/demand relationships, infrastructure, addressing of portability and other such factors, the price ratio of oil to gas can be expected to experience both volatility and to maintain a very high ratio. See the chart above for how it looks currently.

    Since it seems that oil prices are (temporarily) artificially high and NG price is now held low by a severe over-supply/under-demand (my opinion) situation, if the price ratio is to come anywhere near historical levels, oil must came down because natural gas can not go up.

    Further, James Bibbings "Oil's Running - How Strong Are It's Legs?" Article, although not NG-related directly, predicts a retracement in oil prices, which should (by conventianal wisdom anyway) put pressure on NG prices and, therefore, UNG. Another article William Smead's "Don't Believe This Rally in Oil" states that the oil price rise is overdone and will come back down, sooner or later. If correct, and it does match my bias, the traditional price-ratio should leave the 18-19 range and go towards something nearer the long term average via an oil-down, not natural-gas-up, mechanism.

    Speaking of UNG, INSERT THE ARTICLE ABOUT POTENTIAL UNG ISSUANCE PROBLEMS.

    In Hao Jin's "Is Natural Gas a Long-Term Investment?" you'll find a nice pie chart and conclusions contained in an EIA report that is bearish on long-term NG prices - 7 years flat!

    In Ryan Avent's "Tyler Cowen's Thoughts On America's Energy Policy" the assertion is made that although higher energy (oil) prices would help the U.S. wean itself from oil dependancy, it will not happen. Actually, you need to click the link there labeled list to see the original article.

    In Jim Kingsdale's "Will Oil Continue Its Rise?" the assertion is that oil will essentially trade in-line for the next 18 months or so. He references another post therein that indicates that oil shortages may being in three to five years.

    In the first few paragraphs of June 11 Oil Market Report from the IEA it is seen that supply is increasing while demand is shrinking. Further, even the demand picture is looking for oil bulls. This chart from a selection under the demand tab illustrates the situation admirably.

    IEA OMR 5/14 All OECD Demand Chart

    If all that is true, one cannot count on higher oil prices to provide a catalyst for increasing NG demand enough near-term to begin a rise in the price of NG.

    Thanks to Freya, who turned me to Joe Bastardi, of Accuweather, for the long-term forecasts. The first result of using that is an increased near-term bearish outlook due to this from Mr. Bastardi.

    According to Long Range Expert Joe Bastardi, areas from the northern Plains into the Northeast will have a “year without a summer.” The jet stream, which is suppressed abnormally south this spring, is also suppressing the number of thunderstorms that can form ...

    So that should translate into less NG use for peak generation capacity. A potential offset to that may be that NG prices get so low that utilities start using more natural gas and less coal, where they have the facilities. For those that don't have it, they may be able to buy electricity from other providers since prices could be favorable, assuming even marginal excess generation capacity by some of the larger suppliers. This would tend to raise and then stabilize NG prices at some level.

    This flat-to-lower NG price trend seems to be the opinion expressed in the Henry Hub futures too as the prices don't really begin to increment up until well after the summer months. Even then the November futures are only at $5 (at 09:45 6/11/2009), down a penny from yesterday.

    EIA reports a net injection of an additional 106 Bcf. Prior week was +124 Bcf, much large than "expected". With these two weeks, still not observed decline in supply. In fact, if you look at the EIA report here, www.eia.doe.gov/oil_ga... you'll see storage has finally violated the upper bound of the normal 5 year range.

    Regardless of that, morning trades on UNG were up $0.45 at 12:02, confirming my suspicion noted in my working document that it would rise just because the pattern on the high volume days has predominantly been one of reversals - down day followed by up by down, ... If I were a gambler (hm, trading stocks in this environment, maybe I am) I'd bet close up and tomorrow down again. But if there's any correlation to reality, maybe not up as big as other recent times.

    Volumes still unbelievably high - big boys will squash us like bugs if we're not nimble.

    More updates to come, but out of time right now.

    The chart below, by itself is enough to cause bulls to contribute substantially to global warming, via the methane from bovines that the EPA proposed that commerce (or was it the other way around?) should tax a few months back - that's your common-sensical government at work. Other than BEAN-O, I have some thoughts to help avoid the affliction (and possible tax expense).

    Let's look at the very recent environment.

    Thursday, 6/4/2009. another blow was delivered to natural gas prices (and therefore the short-term bulls) as injections came in at +124 BCF when expections were for +115 to +120 BCF. This 3.3-7.8% higher-than-expected supply injection may be the nail in the coffin for short-term bullishness on NG. This was just the latest installment of bad news for this commodity.

    Wednesday, 6/3, CSU predicted a milder hurricane season (reduced risk of supply disruptions), the dollar index unexpectedly gained strength - crashing all the commodities, for the day at least, including gold and oil.

    Further, that same day oil inventories reported an unexpectedly large growth, +1.55MM bbls. That applied downward pressure on oil prices, and through association, other energy prices. It apparently doesn't matter that demand for oil and gas is still down big-time, they just keep pumping. At some point the pain will be enough to stop that behavior I guess.

    But the good news just keeps on coming.

    That same evening, Bill Perkins, an energy trader based in Houston, in after-market comments, said NG storage is "near overflowing" and he's shorting NG. He sees no near/intermediate-term catalysts to reverse the trend. So, regardless of my "expertise" (there is none that I know of), we should seriously consider giving credence to him, especially with all the other facts and technical indicators supporting his view.

    Adding to the dismal outlook, look at the front-month prices from 6/2 close to 6/3 close of the Henry Hub prices, as seen in these two snapshots.

    Henry Hub Futures Before 6/3 NYSE Open

    Henry Hub Futures 6/3 After NYSE Close

    You can see a 1-day drop of almost $0.13. And with the news today, 6/4, the "hits" just keep on coming. In the morning trades, the futures were down big. Even as other commodities destroyed yesterday, including oil, gold, silver, etc. recovered and were trending up, at 13:28 NG was down $0.08 to $3.766. UNG was as low as $13.40 in the morning on big volume. After the big boys got out, it did recover, but on very low volume. At 13:27 it made $14.51 and began trending down again.

    If you want to take a look at the Henry Hub prices after close, here's one place you can go.

    data.tradingcharts.com...

    Still not convinced of the long-term trend? Take a look at this snapshot I made at 11:30 this A.M., 6/4. Click to enlarge it.

    UNG Annotated 200 day SMA 6/4 11:30

     

    Last, consider the general conditions we've seen that should affect our long-term decision-making process.

    The economy is still weak(ening?) as indicated by same-store sales results reported this morning. Don't be fooled by the small recent increase in the construction spending and other leading indicators. All the pundits (I include economists in this camp - they agree with each other about as often as the other pundits do) agree that the consumer is key to the economic turn-around. And guess what! The reported savings rate has now increased to 6.4%. The consumer is not spending. With new jobless claims of 630+K again, who can blame them? The economy is not on a fast-track to recovery.

    The "stimulus plan" (cough, cough) still has months to go before it has what little effect may be expected, according to TraderRob in "Stimulus Effects Not Yet Seen in Economic Data".

    Under these conditions, summer A/C thermostats wil be set up and winter settings will be down. This reduces electricity demand and that means that utilities will not need as much NG for their peak-demand generation activities and home heating draw will be lessened. If the summer and winter are mild, the effects will be exacerbated.

    In support of the "green weeds" corollary of the "green shoots" theorem, these posts "Mortgage Delinquencies as a Percentage of Loans by Richard Shaw"The Proof That There Are No 'Green Shoots' by Karl Denninger and Green Shoots Are Parched by Tom Lindmark. all support my assertion that recovery will be slower than what many expect, thereby keeping NG prices suppressed for a long, long time.

    The tidbit of note from Richard Shaw's piece was "Prime loan delinquencies rose to 6.06% from 5.06% one quarter ago, a significant and disturbing increase from a group of borrowers that aren’t expected to default".

    This is the first statistical support of an assertion I saw previously that defaults had spread to prime borrowers. This implies that, indeed, we have not begun a real recovery. By inference, certain consumer-driven actions that would increase NG demand are forestalled even more.

    Karl's piece was a presentation of the math that demonstrates that the Fed's  ZIR/QE policies have failed to hold mortgage rates down and that this, when combined with ARM resets, eliminate the possibility of recovery in the commonly projected time-frames.

    Lindmark's piece drew on the "Beige Book" to support his thesis. But check the comments from Thiazole in that article. He posts URLs that he says support "shoots", not "weeds". I've not looked for myself yet as this is supposed to be my bearish near-term argument.

    The administration repeatedly mentions "coal gasification" as one of the main platforms in the "green portfolio" and seldom mentions NG. I won't speculate here on why.

    As of last month, shut down wells had only achieved 54% off of the huge number of wells that had been attained in the various shale plays and other places over the last couple of years.

    All I can surmise, with the huge oversupply vs. demand, is that the drillers must be a masochistic lot and need more pain. At some point, the weaker of those will adjust.

    There have been several posts indicating that a lot of LNG may be coming to our shores from the middle east next year. I think this may not materialize because of other economic factors which I'll mention in my next post for the long-term bull case.

    Now, for the long-term investor, I believe the NG will be a big winner. There are catalysts already in play that may aid this case. I will post later when I can do the proper job of presenting what I believe and may discover with further research.

    But for now, I would not recommend entry for the long-term investor.

    Entery here would, I believe, be an emotional trade. And we know we should not trade on emotion. All of us who believe in "green" must exercise self-discipline to avoid this lethal "emotional investment/trade" trap. When I entered it, it was purely a trading opportunity. I entered when an uptrend was underway and exited with a profit. If you just can't resist the urge to get in, treat it as a trade, not an investment for now. If you don't have the discipline to do that and absolutely have to get in, at least reduce your risk and (opportunity) cost by using options as the vehicle. Wait for a good entry point, which I believe exists below $13.50. It might even get into the high $12 range, but let the charts guide you.

    So, why do I recommend this? Simple. Capital costs. An entry for long-term here would tie up your capital with little gain for a long period. There is an opportunity cost associated with any investment. That same capital can be used in the interim to generate more capital that can be invested in NG later on, when the time looks right. Think in terms of "compounding".

    Disclosures: no current position in UNG or any energy stock. I do hold some stocks that may benefit from lower NG prices but they are investments that I hold, and will continue to hold, regardless of NG price.

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