The zeal with which natural gas prices have advanced on the heels of primarily hurricane concerns has some traders checking their spreadsheets and preparing for what may be short-lived trading opportunities.

“The injections of 69 Bcf last week didn’t show me much of anything. That translates to a daily injection of 9.9 Bcf/d, but it’s only necessary to inject 4.6 Bcf/d to reach the November 2001 starting gas balance of 3148 Bcf,” noted Tom Doremus, broker analyst with TFS Energy Derivatives, Stamford, Connecticut. “The last three injections were an average of 2 Bcf/d greater than the five year average, which is skewed because last year’s injections were so large. The five-year averages for the rest of the season are 66 Bcf per week. If that is the case, 3386 Bcf would be in the ground by the end of the injection season,” he advised.

“When everyone is looking for 1 Tcf or less in inventory by April 1, that’s fine, but what does six months forward have to do with present supply and demand? The hype in this market is so crazy. It’s skittish, given all the post Enron woes, and people are buying up natural gas. The fundamentals do not support the price. There’s 160 Bcf more gas in the ground than this time last year and we’re trading at $1.30 premium to year ago pricing,” he added.

Doremus noted that spread trading may be an ideal vehicle to take advantage of what he sees as a short-term overextended market. “There is absolutely a time to sell approaching,” noting that when hurricane Isidore leaves the Gulf a selling opportunity should arise.

If you think about it, a short term supply disruption in natural gas should not affect any contract beyond the spot month,” he said. “I like (buying) the January 2003 contract against a sale of the January 2004 contract. That differential has gone from a carry market (January 2003 under January 2004) by 16 cents to flat recently. It’s a great short-term storm play, because once the storm subsides, you have the fundamentals play on each leg of the trade. The bearish fundamentals of near term gas and the bullish fundamentals of traders anticipating low April 1 inventory balances to support the January 2004 contract.

“If the January 2003 were to trade as much as 5 ½ cents over the January 2004, that would be a place to exit the trade. 5 ½ cents is the twelve month high for that differential. Thus for a risk of 5 ½ cents the trade stands to make as much as 16 cents. This trade could also be held for a while or used as a short term trade. It’s a great way to play the market given all the storm hype,” he said.

There is the possibility that Isidore could do permanent damage. In 1992 Hurricane Andrew — a Category 5 — damaged 166 platforms, including 34 that were toppled and 28 left leaning (see NGI in special features section, Aug. 31, 1992, Sept. 7, 1992). It left 2.5 Bcf/d or 20% of Gulf of Mexico production out indefinitely, caused Nymex to suspend deliveries on the August contract for three days and sent October prices to all-time highs (see NGI, Sept. 7 and Sept. 28, 1992).

Others also see a disconnect between short term pricing and supply. “The market is reflecting a basic conundrum of anticipated supply declines,” said Kyle Cooper of Salomon Smith Barney, Houston. “That may or may not be the case both near and longer term. I expect supply declines to drop off pretty rapidly. Declining production should be less than 5% year-to-year. It started out that way, but I don’t know that it will remain that high. Quarter to quarter decreases have flattened out a lot.

“I don’t think there will continue to be big supply declines,” Cooper added. “Our data doesn’t suggest that. It looks like a bottom has been found. Domestic production should flatten out at 50 to 51 Bcf/d. On the other hand domestic demand does not appear all that healthy. If you remove natural gas demand derived from economic activity, then you are left with weather, and clearly weather can drive natural gas prices.”

Buying or selling any financial or option related product involving the highly volatile natural gas futures should be approached with caution. Prices can move sharply in one direction or the other, and both producers and purchasers of physical natural gas should develop a strategic plan with specific entry and exit prices depending on how high or low they expect prices to move, the analysts advised.

(Republished with permission from Bill Burson, https://gastrader.net )

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