Capping a week that bull traders would like to pretend never happened, natural gas futures continued to fall Friday as sellers continued to methodically and justifiably extend their short holdings and pressure prices lower. After gapping lower following the holiday weekend, the February contract never looked back as it etched a new life-of-contract low in each session last week and sunk to a new four-month prompt contract low at $1.99. February closed at $2.037 Friday, down only 1.1 cents for the day but off a hefty 19.9 cents for the week.

Traders were unanimous in their explanation of last week’s price softness: bearish weather and storage were to blame. On Tuesday, traders returned from the three-day weekend to learn that temperatures were expected to move well above normal across the entire eastern half of the country through at least the end of the month. That, coupled with another in a string of price-destructive storage reports released Wednesday, was more than enough proof for them to push prices down.

According to the American Gas Association, 124 Bcf was pulled from underground storage facilities last week, dropping storage to 73% full at 2,405 Bcf. Although the 124 Bcf withdrawal was greater than the 90 Bcf pull seen at this time last year, it fell short of market estimates centered on a 138-155 Bcf decline.

The way the market has slowly ground lower over the past couple of months is more bearish than if it had experienced a quick sell-off, according to one Houston-based risk manager. “At least when you see a 40 or 50-cent sell-off you get a 50% bounce back. This deliberate move lower is eroding any confidence bulls had of holding the market at $2.00.”

Delving into the fundamental quagmire, he continued by adding that the weakening economy has had a large impact on the large storage surplus. “Industrial demand has ramped back by as much as 75-80%. Usually this occurs during the six weeks from Thanksgiving to New Year’s, but then returns to full output by the middle of January. That has not been the case this year. The industrials that I am working with remain at reduced output levels and their gas requirements are indicative of this.”

Compounding this reduction in industrial output are just-in-time inventory practices — driven by the new capital optimization models. “Everything is sped up. Now, a ripple in the economy is almost immediately felt in the demand for natural gas. These producers of glass, tires and plastics are immediately affected when the sales of the big ticket items such as cars and home electronics begin to falter, the price risk manager said.

In daily technicals, support is seen first at the psychologically important $2.00 level. If that level fails to hold, the 10-year upward sloping trendline at $1.80 could come into play, says Joe Lynch of New York-based Rafferty Technical Research. Some but not all of the speculative funds have rolled their short positions out of the February contract and into March, he continued. “Those that have not will be looking to do so early next week, ahead of the Tuesday afternoon contract expiration. That could produce a little bit of a bounce, but I would not look for the short-covering to last. This thing remains in a downtrend.”

If prices continue lower today, the market could find itself on a slippery slope. Open interest in the February $2.00 put option is currently more than 12,000 positions, and the sellers of those puts are a little concerned with their investment. Many of them had sold the option some time ago when prices were significantly higher, betting that it would expire worthless. However, now if the February futures contract dips below $2.00, they will be forced to delta hedge their option position by selling February futures. The same phenomenon could take place in the March options and futures, except the open interest in the March $2.00 put is nearly 25,000 positions.

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