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Bullish Futures Enthusiasm Tamed, But Upside Still Favored

Unable to build upon Monday's 41.4-cent gain, July natural gas futures on Tuesday backed off 12.9 cents to close at $4.120. Despite the pullback and continued soft fundamentals, some market experts are still convinced that now is the time to buy before prices really break out higher.

After besting Monday's $4.259 high in overnight trade to reach $4.284, front-month futures collapsed during Tuesday's regular session, trading within a 13.9-cent range between $4.208 in the morning and $4.069 in the afternoon.

"I've been saying 'buy it now' for some time," said Tom Saal, senior vice president of energy trading at Hencorp Becstone Futures in Miami. "I said it in Chicago at GasMart 2009 and I didn't mince words."

Saal said he believes the fluctuating value of the U.S. dollar has a lot to do with natural gas futures values. "I still think the background noise in a lot of the commodity markets is the weak dollar. You can't ignore its recent bullish impact on natural gas," he said. "I would include the dollar as a fundamental factor in natural gas, but some purists might not agree with that. As I pointed out in Chicago, when you price out natural gas it is quoted in U.S. dollars, so if the dollar does something, usually the fraction changes. I think that is the main thing that is bullish. The other bullish factor is that the funds seem fairly well entrenched on the short side of gas futures. Those two factors combined can provide some upper price movement."

Commenting on Tuesday's small pullback in values, Saal noted that the market can't go up every day. "As this thing thrusts higher we'll see little pullbacks here and there, but you better believe I'd be a buyer on any pullbacks."

In the near term, Saal said he has identified two resistance lines and one very pivotal price point. "We see resistance coming in at $4.250 and then $4.500, but the key number is $4.600. Anyone within this natural gas market better be aware of that number. If we close above $4.600, you better hold on tight because we're headed up, up and away."

Speaking to an audience at GasMart 2009 in Chicago last month (complete GasMart coverage), Saal identified the $4.600 price level on a technical basis as playing a key role over the years, noting that in the few instances that the market dipped below $4.600, it normally exploded back above it (see Daily GPI, May 22).

Some short-term traders see the market as compensating for a large number of holders of short futures positions. "The market is a little bit short right now, and it looks like it has room to move up to the $4.500 area," said a New York floor trader. "I think we squeezed out a few shorts Monday...I look for the market to reach up to $4.500 before we trade down to $3.900 one more time."

Other traders remain concerned that abundant supplies will restrict gains in gas prices. "Overall inventories are 393 Bcf, or 21.6%, above the five-year averages. Natural gas prices seem to have found a trading range between $3.500 and $4.500," said Mike DeVooght of DEVO Capital, a Colorado-based trading and risk management firm.

In DeVooght's view, lower rig counts have yet to make a "significant impact on price as supply continues to outpace demand." On Friday Baker Hughes reported that the number of rigs drilling for natural gas in the United States continued to decline, and for the week ended May 29 the tally stood at 703, down eight from the week earlier and lower by a stout 776 from a year ago.

"On a trading basis we will continue to hold an October $4.500/$6 collar [long the $4.500 put, short the $6 call]," DeVooght said. Trading accounts and end-users are advised to stand aside, he said in a note to clients.

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