According to a recent Bloomberg news report, trading volume in natural gas futures has risen to almost a three-year high. We see this as a sign of a market that has grown too comfortable -- or perhaps complacent is a better adjective.
If so, the natural gas market could be due for a shakeup. Others seem to agree. The news sources also cite expectations of higher natural gas volatility as U.S. shale producers will begin exporting natural gas to Asia and Europe.
There is speculation that the U.S. will be the third-largest supplier of liquefied natural gas by 2020. Theory suggests that as U.S. natural gas producers ship their product to other countries, it will work against the current domestic supply glut, causing any short-term supply issues to be exacerbated in the market place.
In light of the dramatic reactions to small supply disruptions we've seen in the past, this is a real concern. You might recall how prices of natural gas futures nearly doubled in late 2013 to early 2014 because of harsh winter weather.
Bollinger Bands plotted on the weekly chart of natural gas futures reveal the lowest volatility levels in natural gas seen in over a decade. If you are unfamiliar with Bollinger Bands, they are a technical analysis tool that measures the standard deviations on both sides of the market.
A standard deviation is a quantifiable measurement describing the variation of pricing. During times of low volatility, the standard deviation will be low and, therefore, the bands will be narrow. However, Bollinger Bands rarely stay narrow for long. Eventually, prices break out of the low volatility band with force. We expect that is exactly what we are seeing now in natural gas.
At the moment, natural gas prices are hovering in the vicinity of historic lows at a time in which the U.S. dollar is expensive and fundamentals are uneventful. Nevertheless, things can change quickly, particularly when nobody is paying attention.
Even a small supply disruption, or the hint of hurricane risk in the gulf, can turn the market around on a dime.
Consumption of natural gas is seasonal; thus, so are prices. Generally speaking, natural gas prices see their annual low in late August or early September. Of course, seasonals are a guide, not a fail-safe timing mechanism.
Sometimes the low might occur early, sometimes it is late, other times the market trades counter-seasonally. Nevertheless, one thing seasonal patterns tell us is which direction, and roughly which timeframe, offer the best odds of success.
Thus, according to history, the best natural gas trades in the next month or two should be from the long side of the market on dips to support.
Although we believe the path of least resistance will be higher going into year-end, the near-term trade looks susceptible to seasonal selling.
Look for a retest of the $2.60 mark, and possibly even a quick probe below to run stops that could see as low as $2.40.
Nevertheless, with hurricane season around the corner, and winter weather on deck, it is hard not to get bullish at discounted prices.
There is substantial risk of loss in trading commodity futures, options, ETFs. Seasonal tendencies are already priced into market values.