Similar Pattern to Spring 2012 Developing?

My reports focus on Natural Gas rates because it is the largest source of energy for the generation of Electricity in many regions; therefore, Natural Gas and Electricity rates are highly correlated.

In my Jan 5th Energy Alert, I presented empirical evidence supporting the theory that the average price of Natural Gas will be higher over the next 12, 24 & 36 months, than where it is today. But as I explained a theory is only meaningful if it is supported by empirical evidence.

The 20-year chart of Natural Gas below was the empirical evidence that supported my belief that Natural Gas prices and correspondingly Electricity prices will be higher on average over the next 12, 24 & 36 months.

In the above chart, I point out over the last 20 years Natural Gas has been below $2.00 per MMbtu 7 times and each time experienced an explosive rally as shown by the green lines to the high shown in red. Also, in every instance, the average price over the following 12, 24 & 36 months was higher than $2.00 per MMbtu.

Over the last 20 years why has the average price of Natural Gas always been higher over the following 12, 24 & 36 months whenever its price dipped below $2.00 per MMbtu? In my Dec 30^th Energy Alert, I explained whenever prices were too high from an historical perspective, long-term supply/demand factors pressure prices lower, and when prices were too low from an historical perspective, long-term supply/demand factors support higher prices.

An excellent example is what took place in 2012. Natural Gas rallied off its spring 2012 low even though the fundamentals were terrible. Why? Prices were just too cheap! The winter of 2011/12 was the warmest in 100 years; therefore, storage levels were the highest in history. In addition, due to new fracking technology production increased by the largest amount year over year in history.

Logically you would have thought ending the winter with the highest storage level in history for that time of the year, and experiencing the largest increase in production in history over the next 12-months should have resulted in lower prices. But as you can see in the 12-month chart of Natural Gas in 2012 below prices increased dramatically after briefly trading below $2.00 per MMbtu.

It is important to note; we may have a similar scenario developing this year. The combination of record production in 2015 along with a very mild start to winter decreased demand due to the strongest El Nino since 1997, and as you can see in the chart below prices again briefly traded below $2.00 per MMbtu in Dec 2015.

One tool used in technical analysis is pattern identification. Commodities often form identifiable patterns at major tops and bottoms. Patterns such as double tops and bottoms or head & shoulder tops and bottoms can signal a major change of trend. The charts of Natural Gas below are examples of head and shoulders bottoms.

In the above chart showing the 2012 spring low you can see the left shoulder was formed in Jan and Feb as shown by the left rectangle. Prices then declined sharply to reach its final low in April. The final low formed the head as shown by the circle, which was reached prior to the market sharply rallying to form the right shoulder as shown by the right rectangle.

Below is a present chart of Natural Gas, which shows a head and shoulders bottom similar to 2012 appears to be near completion:

The take away from this analysis is Natural Gas might be near completion of a major bottom, and if this pattern holds similar to 2012 prices will move significantly higher from present levels.

Not every client’s risk tolerance and hedging strategy is the same, but we trust the above report will help you put into perspective the risk/reward opportunities at this time. I invite you to call one of our energy analysts to help you plan a hedging strategy appropriate for your situation.

Ray Franklin
Senior Commodity Analyst
727-400-3170