Natural Gas Prices Jump 2.5% Wednesday On A Drop In Production And Prospects Of Warmer Temperatures In The 11-16 Day

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Includes: BOIL, DGAZ, KOLD, UGAZ, UNG
by: Andrei Evbuoma
Summary

Forecast models signaling a warming trend across the central and eastern U.S. in the 11-16 day time frame (cool western U.S. vs. mild/warm central and eastern U.S.).

A warmer central and eastern U.S. could cut into injection some, but expect for injection to remain strong with triple-digit builds still expected late May.

Production and warmer trends in the 11-16 day helped to lift prices on Wednesday.

Thursday's forecast EIA storage build expected to be 90 BCF.

Investment Thesis

Declining production was one of the primary drivers of Wednesday's rally in prices. From a weather standpoint, the potential for increased demand is there in the 10-16 day time frame. But until we begin to see strong heat signals, upside potential will be limited.

The front-month June natural gas futures contract settled Wednesday up 2.50%, or 7.3 cents ($0.073), to $2.610. The July and August contracts also added 7.3 cents ($0.073) to $2.646 and $2.666, respectively. Figure 1 below is a chart depicting the price trend of the new front-month June contract over the past 24 hours.

(Source: Investing.com)

The United States Natural Gas ETF (UNG), which is the unleveraged 1x ETF that tracks the price of natural gas, finished Wednesday higher 2.64% at $22.58.

UNG's leveraged exposure ETFs, the VelocityShares 3x Long Natural Gas ETN (UGAZ) and the ProShares Ultra Bloomberg Natural Gas ETF (BOIL), traded higher 7.60% and 4.99% at $25.33 and $18.52, respectively. Meanwhile, UNG's high-beta leveraged inverse ETFs, the VelocityShares 3x Inverse Natural Gas ETN (DGAZ) and the ProShares UltraShort Bloomberg Natural Gas ETF (KOLD), traded lower 7.71% and 5.17% at $117.70 and $24.38, respectively.

The weather pattern over the next couple of weeks and as we approach late May looks to undergo a potential pattern change, specifically in the 10-16 day time frame. Forecast models have been mixed as of late, but have recently begun to hint around at a potential cool West U.S. vs. warm central and eastern U.S. pattern developing during this time frame. Injection in the weeks ahead remains strong, but the possibility is increasing that demand, particularly in the 10-16 day time period (late May), could cut into injection. Precisely how much cooling demand could cut into injection is unknown at this time. This, along with a drop in production, has somewhat incited investors into some seasonal buying.

The weather pattern over the next 5 days will be driven by a split-flow regime highlighted with an anomalously strong upper-level ridge over the northeastern Pacific or just off the coast of western Canada and the northwestern U.S., and two upper-level troughing areas (one over central and eastern Canada and a second over the Southwest U.S.). From a temperature standpoint, this will result in a very warm Northwest U.S. (NWPP), unseasonably cool temperatures stretching from central/eastern Canada into the north-central U.S. into the Southwest U.S., and a warm Southeast U.S. Figure 2 below is a 5-day average May 8-13 global northern hemispheric view from the 12z ECMWF ensemble depicting the wavenumber 6 pattern and a split-flow pattern (on our side of the world).

(Source: WeatherBELL)

In the 6-11 day time frame, we will see the weather pattern begin to change and take on the form of an El Nino-like pattern. Upper-level troughing over central and eastern Canada will shift eastward and weaken/dissolve. Meanwhile, the upper-level ridge will move inland over the Northwest U.S. into the north-central U.S. Lower heights associated with storminess will continue to undercut ridging to the north and travel across the southern U.S. As this is taking place, a strong elongated area of upper-level troughing will develop across the eastern Pacific off the U.S. west coast. This trough will extend from the Gulf of Alaska (GOA) region into the Southwest U.S. Additionally, this upper-level trough will allow for storms to drop out of the GOA into the Southwest U.S., and in addition to the storminess, will produce cooler-than-normal temperatures across the eastern Pacific and the western U.S. The aforementioned upper-level ridge will begin to establish itself and expand across the central U.S. This will allow for temperatures to begin moderating/warming across the central U.S. Figure 3 below is a 6-11 day map from the GFS ensemble depicting an overall mild pattern nationally, with a warm northwestern and north-central U.S. and a cool eastern and southern U.S.

(Source: WeatherBELL)

In the 11-16 day time frame, this El Nino-like pattern (cool western U.S. vs. warm central and eastern U.S.) will continue, with warming temperatures expanding to include the central and eastern U.S. Should this pattern hold, expect for temperatures to moderate/warm to at least seasonable levels. Figure 4 below are temperature anomaly comparisons from the 12z GFS, 12z ECMWF, and 12z CMC ensembles in the 10-16 day time frame, or from May 18-24.

(Source: WeatherBELL)

Final Trading Thoughts

Given the sharp move upwards on Wednesday in response to a drop in production due to spring maintenance and the potential for injection to not be as strong as initially thought due to warming in the 10-16 day time frame (mid-to-late May), I would expect for temperatures to remain range-bound. Despite the potential for things to warm up across the central and eastern U.S. in the 10-16 day time frame, there are no signs of any heat ridges or intense summer heat yet, and therefore, no strong catalyst for the bulls at this time to warrant prices to surge higher. There's also a -AO and -NAO in place that supports the risk for upper-level troughing and cooler weather across the northern and central U.S. My price range will be $2.40-2.80 for the week for the front-month June futures contract, with UNG trading between $20.00 and $25.00.

Stay tuned for more updates!

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.