Crude Oil, Old Man Winter in Tug of War Over Gas Prices
Consultants at Wakefield, MA-based Energy Security Analysis Inc. (ESAI) said last week that the solid month of weakness in the crude oil market (until Friday's spike) has kept downward pressure on natural gas prices, but fears of a cold snap and recent winter market history are expected to provide market support at around $6.50/MMBtu.
ESAI natural gas consultant Scott DePasquale noted that there has been a tight correlation this year between crude oil and natural gas prices mainly because of the influence of the hedge funds and other non-commercial futures traders, who tend to trade energy as a basket. "The correlation between crude oil and natural gas has increased ever since the funds increased their percentage of [gas futures] open interest," DePasquale noted in an interview with NGI. "[But their portion] of open interest has come down quite a bit. They were at 33% [earlier this year] and are now below 20%, so the actual tie is weakening, but the correlation is still pretty strong."
That correlation has put upward pressure on prices at times and was having the opposite impact over the last four weeks until Friday's spike.
The correlation breaks down a bit when there is a major fundamental natural gas event like there was at the end of September when gas prices came tumbling down to $4.50 for October delivery, DePasquale said. But there haven't been many incidents like that this year. "I still think it is a pretty important force to consider."
The crude oil market and gas market fundamentals have been pressuring gas prices lower toward their "equilibrium price" between $4.50 and $5/MMBtu, DePasquale said. But they are likely to be stopped far short of that level when winter forecasts begin having more of an impact.
"The market has actually come [down] quite a bit. The whole strip has come down pretty considerably in the last five or six days or so. But we don't see a huge amount of downside potential," he said. "The trend has been that way, but there is significant support near $6.50, technically speaking, and when you run into the winter months with the expectation of a cold winter for the consuming East..." there are limits to what storage can do even though it is near an all-time record high.
He noted that there is a finite amount of storage withdrawal capacity in the market. "LNG will take some of the peak out. We feel pretty comfortable that storage won't be depleted so there is some reason to be bearish. But we are coming into a winter that could be cold, and we saw what happened in the last two years. We've also seen that the financial players can hold the market up well above what we believe to be an equilibrium price.
"Look back at the $7 and $10 peaks in the last two winters. I think the financial players have a memory of that and they are talking about a cold winter this year so the futures market is still trading ahead of cash."
DePasquale said that although it's possible that natural gas prices have reached a peak for the winter already, there should be another price spike in late December or early January in the cash market. "We project a cash price for January that is just below $8/MMBtu -- that would be the average of the whole month's [daily] cash trading. We would expect [futures prices] to converge toward that."
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