Seeking Alpha

2019-2020 Winter Outlook: Near Normal, But Colder Than The Past 4 Winters (Since Winter 2014-2015)

|
Includes: BOIL, DGAZ, KOLD, UGAZF, UNG, UNL
by: Andrei Evbuoma
Andrei Evbuoma
Commodities, energy, Oil & Gas, Research Analyst
Summary

2019-2020 Winter Outlook: Near normal and coldest since 2014-2015; Forecasted Gas Weighted Heating Degree Day of 2,600.

The northern U.S. is most at risk for cold air intrusions and has the greatest chance for temperatures to run colder than normal.

Arctic Oscillation (AO) amongst short-term climate patterns to drive the weather this winter; weather variability will run higher than normal.

Lack of El Nino this winter is one of the reasons why this winter has the chance to run colder than the previous four.

This winter should present more buying opportunity for natural gas bulls, but strong production (~95.0 Bcf/d) will help to keep natural gas bears in control for the most part.

Investment Thesis

Natural gas bears and investors in the United States Natural Gas Fund (UNG), the VelocityShares 3x Inverse Long Natural Gas ETN (DGAZ), and the ProShares UltraShort Bloomberg Natural Gas (KOLD) will continue to run the market with strong production in an already oversupplied market the leading catalyst.

Natural gas bulls will have more buying opportunity this winter with the lack of an El Nino though market sentiment overall will remain bearish thanks to continued strong production

This winter will be similar to the past couple of winters, but should be colder and closer to normal levels. In fact, this winter should be colder than the previous four winters or since winter 2014-2015. My forecasted gas weighted heating degree day for the December through February period is 2,600. Normal is 2,605. This is slightly more than the 2018-2019 winter and 2017-2018 winter that saw GWFDDs of 2,514 and 2,525, respectively.

The northern U.S., particularly the north-central U.S. has the greatest chance for running colder than average, while the rest of the country have equal chance for being either warmer than normal, normal, or colder than normal. The second half of the winter season has the greatest probability of cold risks and running colder than normal.

The El Nino Southern Oscillation (ENSO) climate pattern, which typically influences our winters here in the U.S. (especially in moderate or strong modes) therefore making for a key predictor/variable in putting together an outlook, happens to be in a neutral state. So given the absence of an El Nino or La Nina this season, analogs became the primary method/tool in framing together the outlook for this winter season. Things considered included looking back at years with similar soil moisture distributions, ENSO state, and years with similar atmospheric behaviors from October through December.

Other climate patterns/teleconnections such as the Madden Julian Oscillation (NYSEARCA:MJO) and the Arctic Oscillation (AO) also influences the weather pattern over the winter season. However, these teleconnections are considered short term (as opposed to ENSO) and were not used in this outlook as predictability regarding these climate variables are limited to a couple of weeks out. That said, they make for great intra-seasonal forecasting tools/variables during the course of the winter season.

Figure 1 below is a map of what happened last winter. Last winter produced 2,514 GWHDDs.

Source: NOAA

Figure 2 below is a graph depicting a plume of various forecast model predictions of ENSO through the July-August-September period of next year. Included in the forecast plume are the statistical model average, dynamical model average, and NOAA's CPC forecast. ENSO neutral is expected to persist through Spring 2020.

Source: IRI

Figure 3 below is a map recapping October 2019.

Source: HPRCC

Figure 4 below is a map recapping November 2019.

Source: HPRCC

Figure 5 below is a composite recap of October and November 2019 combined.

Source: HPRCC

Figure 6 below is a map showing the analog years and results used for the winter outlook.

Source: NOAA

Figure 7 below is my forecast outlook for the 2019-2020 winter season.

Source: Andrei Evbuoma

Production remains a key catalyst for the bears and a centerpiece driver

Meanwhile, production remains strong (near all-time highs). Domestic U.S. natural gas production slipped slightly on Saturday to 95.1 Bcf/d, down 0.4 Bcf/d vs. Friday. However, production is higher 0.2 Bcf/d vs. the 7-day avg. of 94.9 Bcf/d and 6.5 Bcf/d higher year over year.

The good news for the bulls is that in the near term, the appetite for buying is there after a massive sell-off on Friday and the fact that forecast models trended colder over the weekend.

For those who are new to the natural gas trading space or for those who may need a refresher, here are some things to know. First, natural gas is a highly volatile commodity. Information such as weather, production, and the EIA's weekly storage reports are key examples that can drive natural gas prices, supply, and demand. Investors like to follow the UNG. This is an exchange-traded fund (ETF) that tracks the movement of prices of natural gas on an un-leveraged basis. There are some exchange-traded products (ETPs) that track the movement of the underlying asset (UNG) and give investors leveraged or inverse exposure to natural gas.

There are a few I will mention. The first is the ProShares Ultra Bloomberg Natural Gas (BOIL). This leveraged ETF aims to provide 2x leveraged exposure to natural gas. Its inverse is the ProShares UltraShort Bloomberg Natural Gas (KOLD), which takes the 2x inverse position. Another one is the VelocityShares 3x Long Natural Gas ETN (UGAZ), also a leveraged ETF that returns three times the daily return of the UNG. UGAZ has an inverse called the VelocityShares 3x Inverse Natural Gas ETN (DGAZ), which takes the short position.

So BOIL and UGAZ can be looked upon as the bulls' leveraged ETFs, taking the long position, while DGAZ and KOLD can be looked upon as the bears' leveraged ETFs, taking the short position. Given the highly volatile/fluid environment of natural gas, these leveraged ETFs are high-risk/high-reward items that should only be used for very short periods (a day or less) due to leverage-decay risk. In general, leveraged ETFs are safer/lower risk whenever volatility is low.

Final Trading Thoughts

The natural gas market witnessed a steep sell-off on Friday with January's contract plunging 8.8% (22 cents) to a discount of $2.281. In short, this could be a time when investors start positioning themselves for a long position given that prices are undervalued/cheapened and the potential for the pattern turning colder late December. Overall and longer term, however, it will be tough for the bulls to have sustained control of the market with production running near all-time highs in a market that's already oversupplied.

Production right now is simply putting too much pressure for demand. The winter season will have to see periods of sustained strong cold (record-like) temperatures to offset supply. That said, the market overall should be controlled by the bears with intervals where the bulls have stronger influence on the market (particularly when the pattern turns cold).

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.