Natural Gas: Thrills, Chills and Spills
Evans, Tim, Futures (Cedar Falls, IA)
The natural gas market is the runaway, commodity bull market of the year, with prices running double their January lows. This culminated in a nearly vertical climb during May as net injections recorded by the American Gas Association (AGA) ran consistently behind 1999 levels, contributing to a growing year-on-year storage deficit that recently tallied 429 bcf. In other words, inventory levels are 25% lower than a year ago and the percentage is growing, not shrinking.
The fundamental problem appears to be twofold. On the supply side, growth was slowed by depressed oil and gas prices in 1998 and early 1999, which led to significant cutbacks in drilling activity. On the demand side, utilities have viewed natural gas as the fuel of choice, offering cleaner operations, faster permitting for new plants and greater flexibility of operation. Until recently, natural gas also was cheaper than residual fuel oil.
The result is more demand in the spring and fall when nuclear plants take seasonal maintenance shutdowns as well as more demand during summer to meet air-conditioning needs. The extended weather outlook warns of mostly wanner than normal temperatures throughout the summer so air-conditioning demand will be strong overall. The one respite may come in July, when favorable comparisons with the all-time record heat of 1999 may allow storage levels to rebound. The longer-term concern is that this strong demand will limit injections into storage straight through to fall, leaving the market tight during heating season when off take is heaviest. This long-term problem will persist until supply catches up.
We normally love the Commodity Futures Trading Commission's Commitment of Traders report as a tool as it allows us to assess how long or short the market is, letting us know when to be on the alert for an intermediate-term trend reversal. This year, the data have shown that the reportable non-commercial category of traders, essentially fund managers, were consistently long since February. Small, non-reportable traders have been holding similar positions. So while the potential for a substantial correction has been there, the fundamentals have just been too strong, allowing these buyers to amass huge paper profits. At some point, these paper longs represent potential supply to the market even before the physical supply arrives.
As of this writing, August natural gas futures were in the midst of their first break back inside the widening Bollinger band since the market cleared 3. …