Thursday, February 17, 2011

Natural Gas - Is It Wrong To Be Bullish?

Two week ago I posted my analysis on why I thought natural gas was a short.

Part of the rationale for shorting the market was that it was bitterly cold and that we were in the midst of a snowstorm. The idea, of course, being that everyone already knew it was cold and therefore was already long (i.e., "sell the news"). And storage levels at the time were still above both last year and the 5-year average, so fundamentally we still had a ton of gas.

In addition, the medium-term weather forecasts showed the balance of February warming up considerably so temperatures only had one direction to go. Therefore there was nothing left for the longs to do but sell, and there was plenty of opportunity to get short. The result was about a 10% drop in price over the next week or so.

Now a full two weeks later, with prices about 12% lower than they were on Feb 3, I sit here pondering whether we are seeing the exact mirror image of what we saw then (i.e., is it time to buy?).

Technically, looking at the UNG, there is definitely support in the 5.15-5.25 range, both from previous lows seen in October, and from the measured move target in the head and shoulders pattern in Jan-Feb. Also the RSI is oversold, which while doesn't mean it can't go lower, does suggest that maybe we are due for a bounce.

With record warm prices expected in much of the northeast on Thursday and Friday, I have to wonder how much of this warmth is already priced into the market? And how much of an impact will today's weekly EIA storage data have when released at 10:30am?

A Dow Jones survey of analysts reports an expected draw of 234 bcf for the week ended Fri Feb 11. That would be the 2nd largest draw ever for that week, second only to -249 bcf for the same week in 2007. Last year's number was -190 bcf, and the 5 year average is -150 bcf.

The blue line below represents working gas in storage assuming a draw of 234 for today. If storage comes in as expected we will have gone from near record levels of storage on Jan 1 to being 142 bcf under last year and 129 bcf under the 5-year average.

Mind you the next week's number will obviously but much lower, likely returning some of the deficit. And at 1,910 bcf we are hardly short on natural gas for this time of the year. But clearly we do not have the same over-supply concerns we had at the beginning of the year.

The draw on distillates inventories (released Wed) was also larger than expected, reflecting a larger draw on heating oil. If largely due to the cold, then maybe we see a larger natgas draw as well.

I am long $HNU.TO at an average of 5.215. HNU.TO closed at 5.16 on Wednesday. Clearly a risky play, and somewhat akin to trying to catch a falling knife, but I think decent risk/reward given the above. Plus after taking profit on my natgas short I have some money to play with . Let's just hope I don't give it all back today...

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