With little in the way of fresh fundamental or technical developments Friday, the natural gas futures market was flat as a pancake as traders elected to play it safe ahead of the weekend. With that the August contract completed a very negative week with a modest 2.5-cent decline and $4.706 settlement. August options expire Monday and August futures closeout on Tuesday.

Several sources polled by NGI Friday were surprised by the lack of a short-covering rally Friday. After all, since notching a $5.18 high last Monday, the August contract has fallen like a lead weight, dropping to levels not seen by a prompt contract at Nymex since last year. It would have been only natural for those shorts to cover ahead of the weekend and ahead of Tuesday’s expiry, right?

Wrong, says Tom Saal of Commercial Brokerage Corp. in Miami. “The funds are the ones responsible for the current price level. They have been steady sellers off June highs. Because they are trend followers, they wait until the price tells them to cover their shorts,” he said.

According to the latest Commitments of Traders Report released by the Commodity Futures Trading Commission Friday, these non-commercial “fund” traders built themselves a substantial net-short position of nearly 28,000 as of July 22. And because the market has moved lower since then, Saal suspects the funds are currently even shorter than that. “They could be reaching a saturation point. The 30,000-35,000 net short level has been a stalling point in the past and I would not be surprised if they were already there,” he continued.

He may have a point. A quick look back at NGI‘s online archive of COT data shows that last year at this time the funds accumulated a net short position of nearly 32,000 before covering those positions throughout the month of August. Moreover, if the price action from last August is any indication what to expect this year, we could be in for a rebound. After reaching a $2.64 low on Aug. 7, 2002, prices rebounded on a steady march to the $10.10 high notched in late February of this year.

However, if the funds are to cover, they will not do so only because they have achieved a relatively large net short position. Rather, they will do so in reaction to a change in the price direction that may be brought on by commercial buying. However, commercial traders buy on fundamental bullishness — something that has been notably absent from the market lately.

According to the Energy Information Administration, there was 1,949 Bcf of working gas in storage as of July 18, up 83 Bcf from the week prior. Though still 537 Bcf less than at the same time last year and 286 Bcf below the five-year average, the amount of gas in storage has improved significantly over the past 14 weeks. Accordingly, most market watchers now believe that storage will easily reach the 3,000 Bcf target by Nov. 1, a feat not thought remotely possible when storage dropped to its 623 Bcf low in April.

Based on temperature models and the idea that the 8 Bcf lost due to Hurricane Claudette was back in the market last week, Wall Street number-crunchers believe the market could see a refill Thursday anywhere from the upper 80s to as much as 100 Bcf. Considering the year-ago analog stands at 48 Bcf, an injection of that magnitude would be undeniably bearish.

However, not all are convinced the market did such a Herculean job of stuffing gas in the ground last week. “I think some people may be disappointed with the number,” Saal continued. “The cash-futures spread has provided ample incentive thus far this season to inject gas into the ground, but we saw that spread tighten last week. The bountiful forward carry is gone.”

But traders realize that Thursday is still several trading sessions away and in the meantime they will have to deal with the expiration of the August contract. If he had to guess, Saal predicts the market will make one more push lower Monday. However, once a new low is in place, the market could rally higher in an expiration-session, short-covering rally Tuesday. In the long term, however, Saal remains a bear, citing ample economic incentive to drill and find supply at current price levels.

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