We have reduced our long exposure earlier today and have slightly increased our short exposure (to hedge the existing long positions). So far, the return on invested capital in May has been 7.20% in futures and 3.30% in ETNs (see the tables below).
Yesterday, natural gas July contract touched the lower bound of a symmetrical triangle (see the chart below). It may now attempt to re-test the upper bound of the same triangle. Previously, a cup and handle pattern called for even lower prices, but that bearish pattern has since been negated by today's rally.
Source: CME Group
Last week, the number of cooling degree-days (CDDs) jumped by 56.0% w-o-w, as weather conditions warmed up significantly across the country. We estimate that total energy demand (as measured in total degree-days - TDDs) was approximately 10.0% above last year's level and 12.0% above the norm.
This week, the weather conditions have warmed up again across Lower-48 states. An increase in cooling demand was especially pronounced in the Midwest and Northeast parts of the country. We estimate that the number of nationwide CDDs will increase by another 30.0% w-o-w in the week ending May 31. We estimate that total average daily demand for natural gas for the week ending May 31 should be somewhere between 78 and 80 bcf/d, which is approximately 18.0% above the 5-year average for this time of the year. Total energy demand (measured in TDDs) should be some 9.0% above the norm, but 13.0% below last year's level.
Next week, the weather conditions are expected to warm up yet again, but this time less significantly. The number of CDDs is currently projected to increase by 7.0% w-o-w for the week ending June 7. Cooling demand should be some 18.0% above the norm. However, total energy demand is expected to be 1.0% below last year's level (see the chart below).
Total Energy Demand
Source: Bluegold Research estimates and calculations
On average, the latest numerical short-range weather prediction models are showing above-normal amount of TDDs over the next 15 days (May 29-June 13). Total demand is expected to average 80.6 bcf/d over the next 15 days (some 19.0% above 5-year average), supported (in part) by strong exports - specifically, into Mexico - but also by robust LNG sales.
Natural gas consumption is also supported by a number of non-degree-day factors such as coal-to-gas-switching. We estimate that at the current spread between natural gas and coal, coal-to-gas-switching must be averaging approximately 7.0 bcf/d (1.5 bcf/d above the norm). At the same time, other non-degree-day factors, such as declining nuclear outages, normal hydro inflows, and stronger wind speeds are displacing natural gas consumption in the Electric Power sector by no less than -300 MMcf/d compared to the previous year. Please note that because the share of renewables (particularly, wind and solar) in the overall energy mix is growing, the traditional competition between natural gas and coal may soon become a thing of the past. Observing wind speeds and calculating solar output may become just as important as studying the amount of cooling-degree days.
While, in absolute terms, total demand remains strong, it is still projected to remain mostly below total supply, resulting in looser SD balance compared to 2018 (see the table below). Notice that, while SD balance looks bearish (vs. 2018), the current price (and the forward curve) is already down y-o-y. And we actually believe that July contract is still slightly undervalued.
Source: Bluegold Research estimates and calculations. The forecast is updated on a daily basis.
Dry gas production has been essentially flat year to date. U.S. dry gas production reached an all-time-high on March 29, 2019, - 91.4 bcf/d (+1,200 MMcf/d from the previous all-time-high, reached on November 30, 2018). As of today, production is estimated at 90.0 bcf/d, down 1.5% from a recent all-time high. Daily rate has not set a new all-time-high for 61 consecutive days now. Dry gas production has averaged 90.2 bcf/d over the past 61 days. We currently expect U.S. Lower-48 dry gas production to average 90.19 bcf/d over the next three months (May-June-July), 0.27 bcf/d higher than the latest EIA estimate of 89.92 bcf/d.
This week, U.S. Energy Information Administration should report a relatively larger change in natural gas storage compared to the previous week. We anticipate to see a build of 103 bcf (5 bcf larger than the comparable figure in the ICE's latest report for the EIW-US EIA Financial Weekly Index, 8 bcf larger than a year ago and 6 bcf larger vs. 5-year average for this time of the year).
Next three EIA reports are expected to confirm the contraction of 5-year average deficit by a total of 22 bcf and confirm the expansion of annual surplus by a total of 30 bcf.
Our EOS storage index has dropped to 3,456 bcf (194 bcf below market expectations), which is a bullish signal (with all other things being equal). Favorable fuel switching economics, strong projected power burn, and rising liquefaction flows are some of the key reasons why EOS storage index remains relatively low. However, should pipeline nominations continue to rise and production rate increases, our EOS storage index would start moving up again. Another factor, which may push the index higher is the price itself. We estimate that at $2.750 per MMBtu, coal-to-gas switching is likely to drop below the norm, which will exert a bearish (i.e., upward) pressure on our EOS storage index.
Thank you for reading our weekly report. We also write a daily update of our forecast for key natural gas variables: weather, production, consumption, exports, imports, and storage. Interested in getting this daily update? Sign up for Natural Gas Fundamentals, our Marketplace service, to get the most critical natural gas data.
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.