Ascending Triangle Predicting Upside Breakout?

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.

Starting with my March 7^th report, I have warned the 2 characteristics of a major bottom are in place. Unsustainably low prices and a high level of negative news. Unsustainably low prices influence suppliers to decrease production, which leads to higher prices, and a high level of negative news is already factored into low prices and rates are primed to move higher!

As you can see in the chart below since writing my March 7^th Energy Alert, Natural Gas has rallied more than 30%:

Since my March 7^th Energy Alert, Natural Gas has experienced an uptrend with no major corrections. As I explained in my April 4^th Energy Alert, we may have weakness at times, but the conditions supporting a major bottom are in place, and the upside risk of higher prices for unhedged accounts far exceeds the potential downside reward of waiting for a lower entry point.

My near-term concern is Natural Gas’s uptrend may begin to accelerate. The basis of my concern is as you can see in the chart below, Natural Gas is forming an ascending triangle.

An ascending triangle is generally considered a continuation pattern, meaning that it is normally found during a period of consolidation within an uptrend. Once the breakout occurs, buyers will aggressively send the price of the asset higher, usually on high volume. The most common price target is generally equal to the entry price plus the vertical height of the triangle, which means Natural Gas may soon rally an additional 10%.

Obviously technical patterns are not 100% accurate, but tomorrow the EIA weekly storage report is expected to report an injection of only 53 Bcf, which is 59 Bcf lower than last year’s injection of 112 Bcf, and 26 Bcf lower than the 5-Yr average of 79 Bcf, therefore, a rally after tomorrow’s report is very possible.

Natural Gas reached a 17-year low of $1.611 MMbtu on March 4^th mainly due to this past year’s extraordinarily mild winter cause by El Nino. I have repeatedly warned these low prices were unsustainable, and I based this observation on the empirical evidence contained in the 20-year chart of Natural Gas below:

As you can see in the above chart, each time prices dropped below $2.00 per MMbtu, rates were higher on average the following 12, 24 & 36 months. As I wrote in my March 7^th Energy Alert, the longer prices stay low the higher they will go! This is a byproduct of the weaker companies being forced out of business thereby decreasing competition, and the surviving companies are highly motivated to increase prices to make up for lost profits accrued while prices were low.

If you have been holding off hedging Natural Gas or Electricity hoping prices will pull back towards the March 4^th low, please look closely at the above chart. The rally starting on March 4^th as shown by the red number 8 is the 8^th rally starting from below $2.00 over the last 20 years. If we are to learn anything from the previous 7 rallies, it is that we are in the early stages of a larger rally, and although short-term pullbacks are possible, the upside risk of higher prices does not justify waiting, hoping for slightly lower prices.

And I emphasize hoping for slightly lower prices. If you look closely at the above chart you will note based on historical pricing the upside risk is far greater than the minimal downside reward potential, Therefore, if you have not already hedged your cost of Natural Gas and Electricity, I recommend doing so at this time. I do not recommend delaying hedging hoping for what historically would be slightly lower prices after tomorrow’s storage report. Remember as I said earlier, the upside risk of higher prices for unhedged accounts far exceeds the potential downside reward of waiting hoping for a lower entry point.

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