The natural gas futures market had one of its more volatileweeks last week as daily price fluctuations averaged more than 20cents and price ranges averaged a substantial 28 cents. As ofFriday afternoon, the July contract stood at a lofty perch of$4.160/MMBtu, 11.7 cents higher than the previous Friday and 94.3cents above where the near-month contract stood one month earlier.

The 12-month strip now rests at $3.938, a record level, and theJuly contract twice in the past week and a half has come shockinglyclose to the all-time high for any gas futures contract of $4.60set in the winter of 1996-97. And it is the beginning of summer.

As close as July has come to reaching a new peak, however, ithas come equally close to plummeting back into the mid or low$3.00s, according to some sources, who expect the extremevolatility to continue until near-month futures can either take outsupport at $3.80 (the low on June 1) or bust through resistance at$4.55, “a nice friendly little trading range.”

“One of the main characteristics of this market for the lastweek has been that you get these wide swings and clear out all theresting orders. We’ve cleared them all out above and below, andthere’s nothing but a vacuum in here. If this market wants to movein a direction, there’s nothing that’s going to stop it, so expectto see it move 15-20 cents a day,” said Ed Kennedy of PioneerFutures.

Because July took out $4.185 on Friday, Kennedy believes it willcontinue into the “upper reaches” of the recent trading range.”…I’ll guarantee you there will not be any selling up there tostop this thing. That would tell me to expect a move back up to the$4.30s and $4.40s.”

But if you ask what brought the market to these price levels andwhy the 12-month strip is at record highs, Kennedy has no answer.”It doesn’t make any sense,” he said. “Oh, by the way, there’s moredemand in the wintertime than there is in the summertime. We gotthrough the winter with low prices in a high demand period, and nowwe’re in a low demand period and you’re telling me that the stripis worth $3.93. I think it’s a bunch of hype.”

Kennedy blames the high prices and increasing volatility in parton the “noticeable absence of the natural short sellers, the largeproducers” and the on the absence of many end-users in the market.”The structure of the market is really interesting here. It lendsitself to being controlled by the large marketers.” The end-usersdidn’t have a good opportunity to enter the market during theshoulder months this year, he added. They didn’t get their seasonalslide in gas prices during the shoulder months so they’re currentlyunder hedged. The producers, he said, historically have beenreactive rather than proactive and only recently have stepped in tolock in the attractive strips.

Despite the hype that may be affecting prices, there are quite afew bullish factors that can be identified. Number one is the lowinventory situation in storage, although its impact was far frombullish last week. The American Gas Association reported ahigher-than-expected injection of 78 Bcf into the nation’s gasstorage facilities last Wednesday and the July contract plummeted34.9 cents to $3.945. Despite being the smallest injection for theweek ending June 2 in the last six years, many observers had beenexpecting even less than 55 Bcf, given the significant lack ofincentive to store gas at these prices. The current backwardationin the futures market, with high prices in the near months andlower prices in the outer months, provides little or no incentiveto buy gas and pay to put it in storage for next winter.

The 78 Bcf storage injection report apparently “spooked somepeople” because if next week’s report shows another 78 Bcfinjection, it would show a smaller deficit compared to last yearfor only the second time this season, noted Kyle Cooper, futuresresearch energy analyst for Salomon Smith Barney.

“Quite honestly, that injection came in 20 Bcf above what I hadestimated. I was thinking it was going to be 58 Bcf so it shockedme as well. I think it’s the first time that you’ve seen injectionsabove 10 Bcf/d [this season].”

At 1,352 Bcf (41% full), working storage levels are 442 Bcf lessthan levels at the same time last year and 183 Bcf less than thesix-year average. Even if the injection pace for the rest of thisseason matches that of last year, a lower-than-average year,working storage levels still would end the season at historic lowsof 2,500 Bcf. If injections are able to reach the average pace ofthe past six years, working storage levels would end the season at2,750 Bcf, which still would be much lower than average.

The market also got its first weather scare of the hurricaneseason, a tropical depression that was about 425 miles southeast ofBrownsville, TX, Thursday morning in the Gulf of Mexico, but thesystem degenerated by late afternoon into a broad area of lowpressure with a few 30 mph squalls.

Meanwhile, renowned hurricane forecaster Dr. William Gray andhis team of soothsayers at Colorado State University announced lastweek that they are raising their projections on hurricane activitythis year. The number of named storms now expected this season isup to 65 from 55. They also upped the ante on hurricanes to eightfrom seven, predicted 35 hurricane days instead of the earlierApril forecast of 25 and now believe there will be four rather thanthree intense hurricanes in the Atlantic Basin this season (seerelated story this issue).

With low storage levels, increasing demand from new gas-firedgeneration plants, flat production and few cyclones added to themix, the gas market appears is poised for further growth despitealready being near record levels, according to some observers.

“The thing is going to go a lot higher, but before it does ithas to build a base,” said Ira Hochman of New York City-based TrotTrading Corp. “They tried testing the highs the other day(Tuesday), and as soon as they lost day structure it justcollapsed. There’s a double top at $4.55 and $4.50. If we breakthrough $3.80 that will confirm those tops and we’ll probably pulldown to the $3.60 or $3.70 level. We could still pull back to $3.25and still be good [for another rally]. I mean there’s a lot of windin this thing.” Hochman, a local floor trader, said he’s in thismarket for the long-haul and expects gas prices to potentially moveabove $7 over the next couple years.

Peter Hattersley of Rafferty Technical Research said he seesmore optimism in this market than ever before at these high prices.”I don’t know that it’s going above this because there always hasto be somebody to buy it, and optimism and buying are two differentthings. But you’ve got just a tremendous amount of optimism. Peopleare buying $6, $7 and $8 calls. I’ve never seen that before overthe counter.”

Rocco Canonica

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