Energy Alert: Buying Opportunity for Hedgers?

Very Mild February a Long-Term Buying Opportunity for Hedgers?

(My reports focus on Natural Gas as it is now the largest energy source for the generation of Electricity; therefore, Natural Gas and Electricity are highly correlated.)

40 years of commodity trading taught me 2 valuable lessons:

1.    Plan my entry points in advance based on long-term fundamental

2.    Short-term, buy when news appears to be at its worse, and sell when news appears to be at its best.

In today’s Energy Alert, I address the question is the “very mild February an excellent long-term buying opportunity for hedgers?”, and why I believe based on the 2 lessons I learned over the last 40 years, the answer is a resounding yes!

First, regarding planning entry points based on long-term fundaments. In my Mar 7th Energy Alert, I said in 40 years of trading, I seldom saw conditions more suitable for a major bottom. The first condition was unsustainably low prices, which are reached when prices drop below the cost of production, and producers in response decrease production, which invariably leads to structural supply/demand imbalances.

In my Feb 1st Energy Alert, I pointed out further price declines would be limited by structural imbalances in supply and demand, but in the near-term, prices could briefly drop below the 200-day Moving Average to fill a gap left behind on Monday, Nov 21st, and the chart below shows today prices did drop below the 200-day Moving Average and filled the gap left behind on Monday, Nov 21st:

The gap in the above chart, which I show with a green circle, was filled today when Natural Gas reached a low of $285.10 per MMbtu. If you read my Feb 1st Energy Alert, you know my forecast Natural Gas could briefly dropping below the 200-day Moving Average and fill the gap left behind on Nov 21st was predicated on mild weather continuing into the second half of February, which is exactly what has taken place. And if you read my report Feb 1st report, you know I concluded by saying:

“I believe it is prudent to reserve rates in the forward markets near present levels and not wait hoping nearby rates test the 200-day Moving Average, but if you decide to wait and rates decline to the 200-day Moving Average, be thankful for your good fortune and act.” The point is, if you have delayed reserving your next hedge hoping for lower rates, be thankful for your good fortune and act now! If not, I believe based on the second lesson I learned over 40 years of trading, you will miss a major short and long-term buying opportunity!

What was the second lesson? Short-term, buy when news is at its worse, and sell when news is at its best.

Since Feb 1st, the news has been progressively more bearish, but price declines have been limited considering the bearishness of the news. Over the last 2 weeks after several revisions, NOAA and the very respected ECMWF (European Model) are forecasting milder than normal weather will remain in place till the end of February, and meteorologists are predicting Feb 2017 will be one of the mildest of all time.

Although no one can predict exactly the depth of market corrections, my role as an analyst is to identify long-term trends, and point out tendencies and potential support areas. Starting with my March 7th Energy Alert, I pointed out the factors supporting a cyclical low were in place, and based on these factors structural supply/demand imbalances would develop leading to higher prices. The final highs in the present cycle will likely be attained due to a weather event such as a warmer than normal summer or colder than normal winter, and corrections in the cycle will also occur due to weather events. The chart below shows cyclical highs and corrections:

The 6-year chart above shows the pattern of higher lows and higher highs were maintained during the 2011 thru 2014 cycle, and remains in place in the present cycle starting in March 2016.

After reaching a cyclical low in the spring of 2012, Natural Gas maintained a pattern of high highs and higher lows until the final cycle high was reached during the cold winter of 2013/14. What is important to note is after reaching a cyclical low due the mild winter of 2011/12, Natural Gas prices declined during another mild winter in 2012/13 and mild summer in 2013, but held well above the 2011/12 cyclical low. The winter low in 2012/13 and summer low in 2013 were reached when news was negative due to low heating and cooling demand, and were short-term buying opportunities.

Conclusions

Since the pattern of higher highs and higher lows will likely remain in place until the final highs are reached sometime in the future, I recommend taking advantage of short-term corrections cause by weather events when the news is very negative. I believe the present combination of structural supply/demand imbalances in conjunction with a sharp correction caused by unexpected prolonged mild weather is presenting hedgers with an excellent buying opportunity.

The question is, will you be thankful for your good fortune and act?

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 now. 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

Disclosure: I purchased UGAZ today at $19.36.