Friday, April 13, 2012
Establishing a bearish position in Natural Gas with prices at 10-year lows may be difficult for many traders, despite few signs that the 4-plus year bear market is near an end. This scenario may present an attractive opportunity for some traders to explore bear put spreads in Natural Gas options. For example, with the June Natural Gas futures trading at 2.105 as of this writing, the June 2.05 puts could be bought and the 1.85 puts sold for a net-debit of 0.068, or $680 per spread, not including commissions. The total investment in the debit spread would be the maximum potential risk on the trade, which has a potential profit of $2,000 minus the premium paid which would be realized at option expiration in late May should the June futures be trading below 1.850.
Not since 2002 have front month Natural Gas futures traded below the $2 level, but this major support level finally gave way on Wednesday, with the front month May futures settling at 1.984. The Gas market continues to struggle from increasing production from shale formations and sluggish demand, especially following a much warmer than normal winter in much of the U.S., including the warmest March temperatures on record. April is considered the beginning of the Gas build season, when supplies are put into storage to be drawn down in the winter months, normally beginning in November. Late season cold snaps can cause gas draws in April, though current forecasts are calling for above normal temperatures for the northeastern parts of the U.S. in the coming days. The weekly EIA Gas storage report was mildly bullish, with only 8 billion cubic feet [[bcf]] of Gas placed into storage last week, vs. pre-report estimates of a 25 bcf build. However, Gas storage levels remain burdensome at 2.487 trillion cubic feet [[tcf]], which is nearly 59% higher than the 5-year average. Even with futures prices at 10-year lows, Gas output has not decreased significantly, as wells producing both Oil and Gas are still profitable, with Crude Oil prices above $100 per barrel. So unless production decreased dramatically, it will be up to the demand side to expand Gas usage, which is starting to occur as power production plants are being switched from coal to Natural Gas. However, unless this conversion occurs quickly, it is possible we could see storage capacity stretched to the limits as we head into the 4th quarter of this year.
Technical Notes
Looking at the daily chart for May Natural Gas, there really is not much to say. With the exception of a 6-week price consolidation from late January to the start of March, prices have been steadily declining, with support points failing to hold all along the way. Now that the $2 handle has given way, we have to look back 10-years to late January of 2002 to find the next support point, which is the January 28th low of 1.850. The 20-day moving average looks to be the next resistance area, currently holding at 2.224.
Mike Zarembski, Senior Commodity Analyst