Natural gas futures traders Friday shrugged off the threat of tropical development over the extended, three-day weekend and sent prices to their lowest levels of the recent down move. At $5.468, the October futures contract was down 16.7 cents on the day and 27.1 cents lower for the week.
Normally traders shun maintaining a short position over a long holiday weekend at this time of year when hurricane activity or even the hint of it can cause profitable short positions to evaporate rapidly. The rationale is that traders holding short positions could lose substantial sums should tropical storm activity surfaces over the weekend and prices respond by spiking quickly.
On Friday, however, these bears were more focused on supply. “Tropical weather doesn’t matter,” said a New York floor trader. “We are sitting on plenty of gas, and you would only see prices rise in the calendar 2008 and 2009 strips if we had any storms right now.” He added that it was foolish to talk about technical support levels, and those who did “were now road-kill.”
“My next trading target is $5.25, and that is based on Fibonacci numbers,” he said referring to a technical trading tool that is based on 38.2%, 50% and 61.8% retracements within an existing trading range.
However, traders may want to rethink their selling exuberance. Market watchers might very well return to the office Tuesday morning to find a tropical storm poised to enter the Gulf of Mexico (see cash market story this issue). As of 5:15 p.m. EDT Friday, the October contract had yet to react to the news, trading down an additional 2.6 cents in Globex, electronic trading from Friday’s open-outcry close to rest at $5.442. Globex trading will reopen at 6 p.m. EDT Sunday night.
Traders are deriving their near-term price forecasts principally on the likelihood of Gulf hurricane development. “I don’t think we are finished with hurricanes,” said an Oklahoma broker. He added that in the short-term if a hurricane entered the Gulf and caused some production to be shut in, but with no infrastructure damage, “you could see a $6 handle, with something like that… but with no weather, we could easily see a $4 handle.”
Risk managers are extremely wary of upside risks, but they counsel the use of options to hedge downside price risk for producers. However, “the implied volatility is still high,” says Ed Kennedy of Commercial Brokerage in Miami. A risk management strategy for producers that Kennedy finds useful is a low-cost collar consisting of the purchase of a put option and the sale of call option far enough out of the money such that hurricane concerns would not cause the exercise of the call option. The strike price of the call option would need to be higher than what you thought a hurricane-inspired price might be. “Decide your strike price on the call and if that were 30 cents above the market, then go 25 cents below the market for the put option. You have to be careful, for if hurricanes get into the Gulf, the natural gas market could come unglued,” he warned.
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