Gas market bulls should be wary of an upcoming trap, according to Energy Security Analysis Inc. (ESAI). Despite the 23-cent jump to $3.305 by the near-month gas futures contract on the New York Mercantile Exchange Monday, the Boston-based consulting firm is predicting prices will tumble back to between $2.25-$2.50 in the near term as storage holders begin to sell off inventories to take advantage of higher forward prices.

The economics of storage have not lent themselves to spot sales for much of the winter, ESAI noted. Currently, the contango of the forward curve holds out more possibility for profit or break-even later in the year. “Due to this reality, it is very likely that many market players have been deferring losses in inventory this season by buying spot gas to meet commitments, helping to bolster cash prices in the process,” said Kristin Dall, senior analyst at ESAI.

“Watch for a near-term price retreat,” ESAI warned. “Given overwhelmingly bearish fundamentals, present $3.00+/MMBtu gas prices in cash markets and on Nymex have left many observers and participants scratching their heads. ESAI identifies the current rally as a “bull trap,” and expects prices will retreat back to levels that fundamentals can support.

Focusing on the three major drivers of marginal demand — weather, electric output, and fuel switching — ESAI said it fails to see strong signals that justify recent prices. Concurrently, U.S. storage capacity levels are at a very bearish 49%, the firm noted.

On the supply side, there may be a fear in the marketplace that supply has begun to tighten alongside dropping rig counts, said ESAI, and this is embedded in the present value of the forward curve. However, this element does not explain all of the price strength in cash and prompt month markets.

“We see the recent phenomenon of excessive cash and Nymex prices as a bull trap set by a variety of factors that came together at the right time,” said Dall. One element being the paper markets, as the historic net-short position of funds this winter was the likely trigger of a short-squeeze that helped to boost Nymex. In recent weeks, it has been the booming cash market that has helped Nymex along and widened the spread between prompt month and the 12-month strip.

“The concurrent crude rally also gave some sympathetic support to gas markets,” says Dall, “But it is not the end of the story.”

For the near-term, ESAI expects the bull trap to result in a price retreat back to a level that present fundamentals can support — $2.25-to-$2.50/MMBtu. Longer term, ESAI expects a strengthening in the gas market due to fundamental factors such as new gas-fired capacity coming on-line during summer peaking season, dropping rig counts, and the possibility of a major crude rally if military action is taken against Iraq.

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