Natural gas weekly summary

Mike Zaccardi, CFA, CMT

The new prompt-month June contract ranged from $1.765 Monday morning last week to $2.017 at the peak Tuesday. A quarter range is more than 10%, but actually not very big compared to recent elevated volatility. Day-to-day volatility has been high as traders monitor weather developments and what is happening with production.

The temperature pattern is going to be actually quite strong from today through early next week as cold air keeps a tight-hold on the Great Lakes and Northeast, drawing late-season heating demand. Call it winter’s last gasp (I like to use that phrase with a hashtag on twitter as there always seems to be ‘one more’ cold spell this time of year). But when looking at the data, May has been one of the more anomalous warm months in the last 10 years relative to the 30-year average. So this is unusual. The west will be warm this week and next.

Technicals have been quite important recently – the $2.00 mark is met with selling pressure seemingly each time it is tested, while buyers step in when prices dip into the $1.50s. It is likely that pattern breaks to the upside just due to the steep forward curve – upward. Contracts for this fall and through 2021 are well above the prompt month.

With that, let’s take a moment to talk about the forward curve. It is fascinating. Near-term contracts have remained under pressure with bearish demand impacts from COVID-19; industrial consumption has gotten crushed. But production is also taking a hit of late as the oil major announce severe capex cuts and shut-in plans – this just means the free associated natural gas, a hallmark of the shale revolution, will back down. Flaring will be the first to go, but then the real production hits come. Anyway, let’s get back to the forward curve. While near-term prices are suppressed, contracts for this fall and through 2021 are up big. January 2021 is currently trading at its highest level in two and a half years! That’s not the whole story though. Go out to summer 2024, and natural gas then is at an all-time low. The same goes for cal strips from 2025 through 2031 – the cheapest ever. So like all things when it comes to financial markets, it comes down to If you are a near-term buyer, you are loving this environment of low prices. If you have to purchase for 2021, well things are much more expensive today versus mid-March. If you have long-term needs (2024 and later), you’ve been paid to wait as prices have trickled down.

Turning to other market fundamentals, I touched on how weak industrial demand is right now. The policy response to COVID-19 has obviously shut down business activity. Everybody knows this. Now the question is, “at what pace do we see activity pick back up given states re-opening?”. Data shows that lockdown measures from state officials are having a decreasing impact, according to Google phone tracking data. People are driving around much more than a month ago, even though most states are still under stay-at-home orders. So a slew of states re-opening may not be as much of a change as the headlines suggest. But it will still be a while until we actually see significant upticks in industrial and commercial natural gas demand. Residential consumption should be respectable as folks keep working from home. It is unlikely many schools will re-open in time for the end of the school year too.

On the nuclear front, output has been quite strong in the last 10 days, helping to ease natural gas power burns. LNG demand is still quite strong as many of the contracts for delivery are long-term in nature, so feedgas demand will be somewhat sticky. Nevertheless, experts say LNG demand should soften later this year as US gulf coast Henry Hub prices have largely converged with European NBP and TTF prices and the Asian JKM benchmark. Something I haven’t mentioned much is the storage situation in Europe – that region is at all-time highs from very soft weather in recent seasons and from drastic drops in demand due to the virus.

As for the broader economy and its impacts to natural gas and oil demand, everyone and their mother has her or his take on whether the recovery will the “V-shaped”, “U-shaped”, or whatever other letter you can come up with. It doesn’t matter. What matters is what the market expectation is and what actually transpires. We know the former, we have no clue on the latter. The market expects a 35% drop in Q2 GDP – but that is a quarter-on-quarter annualized figure. So it is not as if we suddenly drop from $20 trillion to $13 trillion in GDP – it is more like a drop of just shy of $2 trillion – still good for the worst quarterly decline ever (by far). The market also expects a gradual rebound from the Q2 low later this year. A new high in real GDP is not forecast until at least 2022. So nobody is realistically expecting GDP to be above the Q4 2019 peak any time soon. We’ll get the monthly employment report this coming Friday, and it will undoubtedly show the biggest single job loss month ever.