Natural gas futures traders took their foot off the accelerator on Wednesday as the July contract came off fresh highs on a round of profit-taking to close back below $5 at $4.978, down 21.1 cents from Tuesday’s finish.
After notching a new high for the move at $5.196 in overnight trading, the prompt-month contract ground lower during Wednesday’s regular session, recording a low of $4.965 just prior to the close. However, market watchers saw the day’s action as a mere speedbump in the bullish move to higher values.
“I think Wednesday’s setback highlights nothing more than the normal ebb and flow of a market moving in a particular direction,” said a Washington, DC-based broker. “Natural gas futures are headed higher, but you would expect to see pullbacks here and there along the way. In the last four days we went from a low of $4.628 to a high of $5.196, which is nearly a 60-cent gain, so a 21.1-cent drop Wednesday doesn’t impress me. I would not be surprised if Wednesday’s pullback reflected more profit-taking from people who had been beaten up from March untill now from trading the range. Rangebound trading is what ends up killing a trader.”
In fact, the broker noted that natural gas futures appear to be following a well-known script. “The market has been operating in a ‘textbook’ type of way the last few months. The market came down in early April to make a low of $3.810, and then it starts to essentially establish a base because we traded between that $3.800 area and right around $4.500 from the middle of March until two weeks ago,” he told NGI.
“After a long basing process, the economy is starting to look not so bad. It is not perfect, but the numbers continue to show improvements in economic activity. Department of Energy natural gas consumption reports also have shown signs of improvement. This is why I’m not surprised with the recent price run-up. Sure we have a lot of inventory around, but we have a commodity in natural gas that is underpriced relative to oils.”
He noted that he was not surprised with where the market is, but was taken aback by the “relatively passive reaction” that he has seen from some clients. “With the market officially declaring itself to the long side over the last week, we think people should start to buy it,” he said. “We have a very good gas book, and yet it has been very slow. In my opinion people should start to run with this thing.”
Commenting on a Bloomberg article Wednesday that implied the natural gas futures market’s recent movements are very similar to the conditions four years ago when U.S. hedge fund Amaranth Advisors LLC imploded due to wrong-way bets in the natural gas futures arena (see Daily GPI, Sept. 22, 2006), the broker said he doesn’t see the connection.
The Bloomberg article noted that the premium for the futures contract expiring in March 2011 over the April 2011 contract surged to 42.3 cents on Tuesday despite record levels of storage inventories for the time of year.
“You have to remember, you do get some ‘backwardation’ [a downward sloping forward curve] in those months,” the broker said. “The open interest numbers as of Tuesday night were 53,000 for March, 34,000 for April and 20,000 for May. We’re talking about winter, so these numbers are not that spectacular. I’m not sure it is another Amaranth thing. It’s not like we haven’t seen a spread like this before.”
Turning attention to Thursday morning’s storage report for the week ending June 11, it appears much of the industry is expecting the Energy Information Administration to reveal a build in the low 80s Bcf.
Citi Futures Perspective analyst Tim Evans is eyeing an 82 Bcf injection, while Bentek Energy’s flow model is projecting an 81 Bcf injection, which would bring inventory levels to 2,537 Bcf. “A 81 Bcf injection will bring storage inventories down to below [the] five-year high for the first time this season,” the research firm said in its weekly storage note. Bentek’s estimate includes a 50 Bcf injection in the East Region, a 20 Bcf injection in the Producing Region and an 11 Bcf injection in the West Region.
The number revealed Thursday morning at 10:30 a.m. EDT will also be compared to last year’s 113 Bcf build for the similar week and a five-year average build of 84 Bcf.
Despite the current record amount of gas in storage for this time of year, some analysts warn that more gas is going to have to be injected this season over last year in order to illicit the same bearish impact on prices. According to Barclays Capital analyst James Crandell, there are a record number of storage capacity additions planned for 2010, which will increase maximum gas storage capacity.
“The EIA estimated that storage capacity (using the maximum non-coincident working gas in storage) was 3,889 Bcf last year, but given no major storage bottlenecks with a coincident working storage peak at 3,837 Bcf in 2009 and coming capacity additions, actual capacity for this injection season likely approaches 4.1 Tcf,” he said in a research note.
“One clear conclusion from last year’s storage finish (and the market’s knowledge that capacity continues to increase) is that inventories that track 2009 levels will not induce the same bearish price result because inventory containment fears are reduced at comparable storage levels. While this has led to less downward price pressure versus 2009 at this point in the injection season, the market remains divided as to what inventories will build to in October 2010 and if another real capacity test is in store.”
Crandell added that the natural gas market has recently become enthused over the prospects of hot summer temperatures, a factor his team determined in 2009 would add approximately 0.5 Bcf/d in the case of a 4% warmer-than-30-year normal May through September. “Our base-case outlook sees production growth overwhelming and an inventory finish nearing 4 Tcf,” he said. “This should again test the limits of room below the ground.”
However, the production onslaught could be slowed if recent onshore and offshore production accidents spark increased federal or state regulations on the industry.
Longer term, analysts suggest a contracting rig count. “I love reading what others are saying that we ‘are awash in gas’ but when land-based rigs in north-central Pennsylvania are exploding, I don’t think any governor in his right mind is going to say, ‘Go ahead boys, just go ahead and do what you are doing,'” said a Washington, DC-based analyst. “These guys are dreaming if they don’t think there is going to be a massive increase in costs due to increased regulation, which is going to require a higher commodity price to break even. It’s coming and you don’t need glasses to see it.”
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