It wasn't that long ago that natural gas was considered the premier highflier of the commodity complex. Traders began buying in August of last year and didn't stop bidding the price of natural gas higher until its value had more than doubled. A mere five months later, values have fallen back to what are historically low levels. Nonetheless, more selling is likely to come before a significant bottom can be put in place.
Seasonally, natural gas prices tend to decline through August and generally find a bottom in early September. Nonetheless, there is a temporary early August surge to be aware of but ideally not fooled by.
Another factor that could keep prices under pressure is that small speculators are still net long the market, as of the latest Commitments of Traders Report issued by the Commodity Futures Trading Commission. Simply put, this group of traders, known for fickle behavior and shallow pockets, has yet to unload the entire net long position amassed in the boom cycle earlier this year. As these traders unwind their holdings, we could see additional price declines in natural gas.
On the other hand, large speculators (those categorized as having relatively deep pockets and who are assumed to be highly sophisticated) appear to be accumulating a sizable net short position. However, on the basis of last year's trading stats, they have plenty of room to add to their short holdings. This too should work against the price of natural gas.
The fundamental outlook on natural gas is mixed. For the long term, there are certainly arguments in favor of increased demand for clean-burning fuels, but in the short run, traders will likely focus on supply. Yesterday's inventory report from the Energy Information Administration revealed the 15th consecutive weekly gain in storage above the five-year average. Over the last four weeks, natural gas storage has increased 390 bcf (Billion cubic feet). Thus, most fundamentalists argue that any near-term recovery in price could be short-lived.
Chartists might come to the same conclusion. Natural gas has fallen about $1 per million British thermal units since the late June high, leaving it in an oversold condition. Traders could look at this as a "too far too fast" scenario that will attract bargain-hunters and entice those who are short the market to take profit. If so, the selling could see a temporary hiatus.
Nevertheless, we ultimately believe the odds are pointing toward much lower natural gas prices before we head into the winter season. We'll be looking for any temporary rallies to hold resistance near $4.10-ish, or maybe as high as $4.35-ish should the short squeeze get out of hand. On the downside, we'll be looking for a possible test of $3.20, and maybe even eventually $3.
And remember, there is substantial risk of loss in trading futures and options.