The trading range in natural gas futures shifted higher this past week as June futures rolled to July on the New York Mercantile Exchange division of the Chicago Mercantile Exchange. However, there was little hoopla in the market for trading in the energy commodity last week as oil got all of the attention with the OPEC meeting on May 25 and its recent rebound from below $44 to over $51 per barrel.
The summer season of 2017 began on Memorial Day weekend, and I could feel the heat already in my hometown of Las Vegas as the temperature burst through the 100-degree mark on May 24 for the first time, and the air conditioners began humming as natural gas demand made a comeback from the spring lull. However, aside from the roll which rewarded shorts with an 8 to 10 cent contango and punished longs last week, the price hardly moved. It seemed like natural gas began its holiday weekend a lot earlier than the rest of the market and the price traded in a narrow range from $3.269 to $3.428 throughout the week. The price range of just under 16 cents is small for the volatile energy commodity but so is the range that it has been trading in for what is starting to feel like a long time these days. I am starting to wonder if this market will ever break out of its trading range and do what we have become accustomed to when it explodes or tanks and takes no prisoners in the process.
A trading range in 2017 and a narrow one since early March
In 2016, natural gas traded in a range from lows of $1.611 to highs of $3.994. The range of $2.383 was wider than the price the energy commodity traded at on the lows last year. This year, the range has been more than half last year's band. Source: CQG
As the weekly chart of NYMEX natural gas futures highlights, in 2017 the lows came in February at $2.522 and the highs at the very beginning of the year at $3.568. The range of $1.046 has narrowed to a band of $3.043 to $3.431 on the nearby contract since March 10, which is under 40 cents per MMBtu and uncharacteristically tight for a volatile commodity like natural gas. Source: CQG
As the daily chart illustrates, June futures have rolled to July, and the contango has caused the support level to jump to $3.209 which is the lowest level since March for the July futures contract. Upside resistance on the same contract stands at $3.5060, the May 12 highs. Natural gas futures closed on Friday, May 26 at the $3.30 level which is closer to support at the lows than the highs when it comes to the trading range.
Open interest at a record level but last week's injection sends the price to the bottom of the trading range
During the June-July roll, open interest dropped from a record high level. The metric that tracks the total number of open long and short positions in natural gas futures contracts reached highs of 1,573,795 contracts on May 12. Source: CQG
As the monthly chart highlights, the previous high in open interest occurred in April 2013 at 1,559,802. As of the end of last week, the metric stood at 1,527,968 contracts lower than the highs but still at a lofty level. The record interest in the natural gas futures market meant that there were lots of longs and shorts with positions waiting for the market to break to the up or downside. As the price has been rangebound, some speculators decided not to hang around anymore as June futures rolled to July and they exited the market closing risk positions. Meanwhile, at 1.528 million contracts plenty of risk remains in the market.
Last Thursday, the Energy Information Administration reported an injection into inventories of 75 billion cubic feet for the week ending on May 19, 2017. The total amount of natural gas in storage is now at 2.444 trillion cubic feet which is 13.2% below last year's level but still 10.9% above the five-year average for this time of the year. The injection was bigger than the previous two weeks, and the price of the energy commodity moved lower in the wake of the EIA release. The peak season for natural gas each year is winter, but we are now coming into a time of the year when hurricanes, not cold could push prices higher.
Hurricane season is coming
There has not been a major hurricane in the Gulf of Mexico in years, almost a decade at this point. However, memories of hurricanes Rita and Katrina remain in the minds of natural gas traders and investors as those events caused the price of the energy commodity to spike higher above the $10 per MMBtu level in 2005 and 2008. The delivery point for NYMEX natural gas is in Erath, Louisiana and with lots of infrastructure and pipelines in the region, the natural gas market is always susceptible to a price spike if a hurricane damages natural gas facilities in the region. Moreover, the new LNG business is located around the Gulf as ships take the energy commodity in liquid form to ports around the world. Therefore, a Cat 4 or Cat 5 hurricane this season could create dangers for business flows which pose the risk of a price spike to the upside for the energy commodity. Hurricane season is just getting underway, and the market will be watching weather reports over coming weeks and months as closely as it watches temperatures during the peak winter season. Additionally, now natural gas powers more electric utilities than coal, an unusually hot summer could increase demand for electricity and natural gas. The potential for a weather event or a very hot summer is the bullish case for natural gas at this time, but the rate of inventory injections could be the bearish case.
Can inventories reach a new record high?
On November 11, 2016, the total amount of natural gas in storage across the United States reached a record high at 4.047 trillion cubic feet. With twenty-five weeks to go until withdrawal season, an average injection of 65 billion cubic feet will put the stockpiles at another record.
Stocks never moved above the four tcf mark before 2015, but in each of the two last years, we have seen record levels in storage facilities around the U.S. Last Thursday's injection of 75 bcf caused selling, but if subsequent injections continue to run at above the 65 bcf level, a bearish pall could descend over the natural gas futures market. It is quite possible that we will see a new record high in inventories in 2017 but there are almost six months of injections ahead, and anything can happen. Currently, there are compelling bullish and bearish arguments for the path of least resistance for the price of natural gas which is why open interest is close to a record level, and bulls and bears are facing off in the electronic pits each day.
Contango favors shorts but longs since the February lows still have the advantage
The June-July roll traded at an average of around an eight cent contango over the past two weeks. Shorts received a bonus of eight cents when they bought back their nearby positions at a discount and sold the July futures at a premium. Meanwhile, longs had to pay that premium to roll their risk positions.
Since the lows in February, the price of the continuous contract in natural gas has rallied from $2.522 to $3.30 per MMBtu as of last Friday. A long who rolled their risk from four times, from March-April, April-May, May-June and now June-July and paid eight cents each time was penalized 32 cents per MMBtu over the period. Natural gas has moved up by 77.8 cents over the timeframe, so they still have a profit of 45.8, assuming that they entered their long position on the lows, which is highly unlikely. Meanwhile, shorts that have been in positions over the past four months have similar economics, they are currently losing money, but the premium received for rolling their positions has offset some risk. The current level of the July-August spread is just under 3.5 cents per MMBtu which may make it a lot cheaper for the longs to hold on this time but the price is currently at the bottom end of the trading range.
To me, natural gas looks like it is dancing at the edge of a cliff. The price of crude oil tanked last Thursday after disappointment with the OPEC announcement. The weekly chart in natural gas looks like momentum has turned to the downside and inventories are on course for another record high if they keep rising at 65 bcf or more each week. Everything looks pretty ugly for the longs right now. However, on Friday, May 12 natural gas closed at a new high, and it looked like the stars were lining up for a huge follow through rally that never materialized. Natural gas futures look as bearish at the end of last week as they looked bullish just two weeks before. I continue to believe this market is going to break on the downside but stops need to be tight in this market that looks its best on the highs and worst on its lows.
Eventually natural gas should break out of its trading range of 2017, but that is likely to happen when all market participants least expect it in the most volatile and treacherous futures market that speculators have learned over and over again to love to hate.
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