What a difference a week makes in the world of natural gas trading. Just a week ago, when we saw a bullish setup for natural gas, the February Henry Hub contracts fell from $3.99/MMBtu to $3.42/MMBtu. March contracts closed below $2.85/MMBtu today. The sell-off has reduced the near-term natural bas bull thesis to a simple binary bet: Is the winter over? Yes or no.
Fundamentally, the market punished prices lower because the bearish heating demand revisions (for the first 2 weeks of January) resulted in storage changes of ~300 Bcf.
Our current storage projection shows ~1.85 Tcf by April, assuming normal weather. If the February weather outlook remains bearish, then we could see EOS climb above ~2 Tcf. At that storage level, April and May natural gas contracts have more room to the downside from $2.893 and $2.974 to sub-$2.5.
On the contrary, if February doesn’t turn out to be warmer than normal, and neutral weather is in the mix, then April and May contracts have upside back to $3.5/MMBtu.
Either way, the calculus for a bullish bet on natural gas going forward is simple: Is the winter over? Yes or no.
What does the weather look like?
To better explain the sell-off, we must first go back to Dec 29 and look at what the market was projecting at the time.
Dec 29 ECMWF-EPS TDD Chart
Dec 29 15-Day Cluster
Now what you will notice is that bearish weather was expected from Jan 1 to Jan 12 with the 15-day showing a bullish pattern returning.
Fast forwarding to today, this is what ended up developing:
Jan 6 ECMWF-EPS TDD Chart
6-10 Day
10-15 Day
15-Day
What you will notice from today’s update is that the “warmer-than-normal” weather is expected to drag on another 7-8 days. The natural gas market really doesn’t like that since we are in the “heart” of the winter heating demand season.
While many of the bullish signals remain in place, Alaska ridge, Greenland ridge, etc, the market will undoubtedly question the incoming forecast as just another delay. To add to the uncertainty, the cold blast has shifted more West (lower demand regions), and the Southeast is projected to be warmer-than-normal. The combination of everything is what prompted the market to sell off so much.
Now many of you may have noticed that we published a trade alert yesterday going long BOIL at $18.88. The rationale behind going long as today’s price is that we believe 1) winter heating demand is not over and 2) the market has more than pushed prices to their extremes. We are keeping a tighter stop-loss in place in the event of persistently bearish weather, but readers must keep in mind that the 15-day range does show “signs” of bullish weather.
In addition, from a fundamental perspective, sub-$3/MMBtu natural gas will dampen production growth, which will push natural gas prices higher down the road. Putting this fundamental backdrop in the context of elevated structural export demand and we think the sell-off is overdone.