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Futures Drop More than 40 Cents on Weather, Petroleum Weakness

Pressured by early-week warmth and some significant weakness throughout the petroleum futures sector, December natural gas futures, in their first regular session action as front month, dropped significantly lower on Monday, recording a low of $7.400 before settling at $7.416, down 41.1 cents from Friday's close.

In addition to warmer conditions in the East, the petroleum futures sector sold off on Monday in wholesale fashion, possibly giving natural gas bears the backing needed to plunge lower. December crude dropped $2.39 on the day to close at $58.36/bbl, while November heating oil shaved 9.29 cents to close at $1.6015/gallon. November unleaded gasoline cut 10.44 cents off its price to finish at $1.4555/gallon.

"The cash market started off Monday on the weak side as temperatures showed warmth," said Ed Kennedy, a broker with Commercial Brokerage Corp. in Miami. "We have a warm-up through the Ohio Valley into New York and New England through Tuesday and then the next cold wave is expected to come in. I think we have a little more downside here...probably a test somewhere down in the mid-$7.20s, but I think that is about it. We should see some firmness down there. On the other side, once we get between $8.25 and $8.50, the selling should be really good in there."

Kennedy noted that the market remains focused on the weather. "The long-range forecasts we are looking at are calling for slightly below normal temperatures this winter, which is a lot colder than last year's winter. Because the utilities are probably not going to pull from storage early in favor of reliability of supply later on when it gets really cold, so any cold snap that comes in here will likely result in a cash market jump...ergo, so will futures."

The Southeast and eastern seaboard should enjoy mild temperatures in the immediate near term. AccuWeather reports that as a high pressure slides off the Carolina coastline, winds circulating around this high will bring warm air, currently across the South, northward. Temperatures in the East will reflect a surge of warm air through Tuesday. "The Northeast will feel a noticeable change in temperatures, for New York City will reach 60 [degrees on Monday], and Tuesday will surge to a comfortable 67 degrees," predicted AccuWeather meteorologist David Thomas.

In the Midwest, the warmth is not expected to last quite as long. "Temperatures will surge to around 70 degrees Monday as late-season warmth makes its first visit here in more than three weeks," said Steve Kahn, meteorologist with the WGN Weather Center in Chicago. He noted that the warm-up will be short-lived as a strong cold front passes Monday night, accompanied by a few showers that set the stage for a multiday chill-down that will last through the end of the week.

Top traders are circumspect about whether prices can advance, but did not cover existing short positions. "Most of the rally over the past couple of weeks has been in the spot and nearby contract," said Mike DeVooght, president of DEVO Capital, a Colorado trading and risk management firm. He noted that it is difficult to say whether this strength was storage buying, winter locking, or just short-covering. "Time will tell if we have seen a major trend change or just a blip up in a major downtrend. We suspect that the recent rally has been tied to buying by end-users that wanted to get a little booked 'just in case' prices continue to move higher."

DeVooght said his company's current take on the market is that it will languish, possibly testing the lows in the winter contracts as the market awaits to see what the weather has in store. "On a trading basis we came close to levels that would have been a trigger for us to start booking profits. But fortunately it did not occur, so we will maintain our current short positions," he said.

DEVO currently advises end-users to stand aside and producers to hold short 30% to 50% of winter 2006-2007 hedges established earlier at $13.950. He says to cover 50% of a hedge position if December trades above $8.200 on a weekly basis or closes above $8.500 on a daily basis.

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