Without clear leadership from either weather demand or technical buying, the natural gas futures market groped lower Friday as traders squared their books ahead of the weekend. After opening slightly off Thursday’s $5.718 close, the October contract was held to a relatively tight $5.61-78 trading range with neither bull nor bear willing to take the leadership role. The prompt month closed at $5.675, down 4.3 cents for the day and 20.2 cents for the week.

The quiet trading session gave market watchers the chance to weigh in on the prevailing price level as well as the price direction as the market turns to the winter heating season. Typically natural gas futures will make a seasonal low during September before beginning a pre-season rally, as uncertainty over winter weather conditions prompts traders and buyers to hedge themselves against unexpected price advances. The question now is when or if such an advance will take place in light of bountiful storage supplies and weakening prices in the petroleum sector. October crude oil finished at $66.25 per barrel, down 1.6% for the day and a whopping 17% off its July 14 high at $80.

Market technicians see the $5.35 level as a key determinant as to whether that advance will take place. Walter Zimmerman of United Energy believes that it is critical that the spot futures hold the $5.68 to $5.35 zone if the case for “seasonal bottoming action” is to remain intact. Should the $5.68 to $5.35 zone fail, then it could be a case of no technical support zone left behind it and the market cascading down to $4.175. “Thursday fell to a $5.660 low and a very weak close with no evidence of bottoming action. So even though the key $5.680 closing basis held, the market gave absolutely no assurance that $5.680 will continue to hold into Friday. We therefore see it as more prudent to peg the daily trend indication as down than as bottoming,” Zimmerman said.

However, a key local trader points to calendar spreads at Nymex as proof the prompt month is headed higher in the short-run. “The Oct-Jan spread recently peaked at $4.70. That compares with a low of just $1.20 back in November,” noted technician Rich Bruskoff. Historically, that spread runs between $1-2. At $4.70, that spread is ripe for selling, he continued.

The buying and selling of calendar spreads has increased over the last couple years by local traders trying to manage both the higher volatility and prices in the natural gas futures market. Because spreads involve the simultaneous purchase of one month and sale of another month, a lower margin requirement is necessary, allowing the trader more trading flexibility. In the vernacular, a trader “buying a spread” is purchasing the more expensive month and selling the cheaper month. Conversely, in selling the spread, he or she would sell the more expensive month and buy the cheaper month. At Friday’s close, January [$10.185] was priced $4.51 cents above October [$5.675], meaning the purchase of that spread would cost $4.51, certainly a steep price by historical standards.

That said, Bruskoff looks for at least one big day of short-covering in the October contract this week which will help to take a chunk out of the winter premium. Storage is extremely high and people are going to start looking for a reason to sell the winter, Bruskoff said.

He may have a point. With storage reserves apparently at record levels heading into the upcoming withdrawal season, there exists virtually no excess capacity for storage injections. That lack of capacity, experts agree, is precisely the reason that the winter months are commanding such a large premium to the prompt month. Under normal circumstances, traders would buy spot gas, inject it into storage while simultaneously selling the winter futures contracts. Under that scenario, as long as the cost of storing the gas plus the time value of money does not exceed the price of the sale of the winter contract, the deal makes economic sense. However, without the option of injecting the gas into storage right now, that arbitrage play is not available and that usual flow of selling in the winter months is absent the market.

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