Status of Natural Gas & Electricity at End of Winter Heating Season

The purpose of this Energy Alert is threefold:

1. Historical Perspective of Natural Gas & Electricity at End of Winter Heating Season.
2. Timing of Natural Gas & Electricity Hedges.
3. Summary of Risk Factor.
1) Historical Perspective of Natural Gas & Electricity at End of Winter Heating Season.

In my March 7th Video Alert I said over the last 5 years the average storage level at the close of the winter heating season completed at end of March has been 1,680 Bcf. In their last storage report released on Mar 20th, the EIA announced inventories of Natural Gas were 953 Bcf, which is 49.4% below last year and 47.9% below the five-year moving average.

Natural Gas’s storage levels this year will close the winter heating season near 900 Bcf; therefore, we will be approximately 780 Bcf below normal levels. We have 210 days to rebuild inventory levels before next year’s winter heating season and production must increase 3.7 Bcf per day over last year’s production to rebuild storage levels by next winter.

The large deficit in storage levels at the end of this winter will create a high base level of demand. Suppliers need to produce significantly more Natural Gas than last year to bring storage levels back to normal prior to next winter. Many analysts assume new fracking technology will allow suppliers to quickly bring storage levels back to normal, but there is a risk factor that could lead to much higher rates for Natural Gas and Electricity this summer.

Last year we experienced a very mild summer, but if as projected by many meteorologists we experience a warmer than normal summer this year demand for natural gas by end users will increase year over year and the present very low storage levels could result in a storage crisis leading to much higher natural gas and electricity rates in the second half of 2014. The present situation is very perilous and I recommend anyone who does not have a hedge in place to consider doing so at this time. To fully appreciate my recommendation you need to consider where Natural Gas rates were at this time last year.

In my 4/6/13 Energy Alert I referred to the 15 year chart of Natural Gas below:

“As shown by the second green arrow in the above chart Natural Gas was trading just above $4.00 per MMbtu and in my 4/6/13 Energy Alert I said a pullback would likely begin within 30-45 days. Natural Gas had rallied in the first quarter of 2013 and a pullback was anticipated during the low demand period between the winter heating and summer cooling seasons. But I said it would be important to take advantage of the anticipated buying opportunity because I felt as shown with the first green arrow we were in the early stages of a long term bull market similar to 2002 to 2008 and we would likely trade higher in the second half of 2013. My prediction of higher prices in the second half of 2013 came to pass and those who hedged their natural gas and electricity after the anticipated pullback were protected from this winter’s high rates.

The chart below reflects the trading of Natural Gas over the last 12-months:”

As you can see in the above chart after my 4/6/13 Energy Alert, Natural Gas started to pullback within 30 days, and completed its correction early in August. The correction lasted longer than expected due to a very mild summer, but as predicted Natural Gas rallied in the second half of 2013. My Video Alerts recorded on 12/16, 12/19, 1/8 and 1/23 explained why I felt Natural Gas was preparing to break above its spring highs near $4.50 and when it did I projected Natural Gas would rally to $6.00.

Natural Gas broke above its spring 2013 high in January 2014 as shown in the above chart and it rallied to a high of $6.43 MMbtu on 2/24/14 prior to pulling back in anticipation demand will decrease between the winter heating season and summer cooling season. As I am writing this report Natural Gas reached a low yesterday of $4.26 MMbtu leaving rates close to where they were at the end of last year’s winter heating season when Natural Gas was trading just above $4.00 MMbtu.

Rates today are close to where they were 12-months ago, but the extraordinarily low storage levels at the end of this year’s winter heating season increases the risk of much higher prices this year than last year. If we experience a warmer than normal summer rates could skyrocket and surpass this winter’s high of $6.43 MMbtu; therefore, I believe the pullback we are presently experiencing should be looked at as a major buying opportunity.

2. Timing of Natural Gas & Electricity Hedges.

The question is should hedges be placed now or delayed hoping for rates to move lower?

The next 2 charts demonstrate why I believe hedging now is in your best interest.

The first chart below is the April 2014 contract of Natural Gas, which is the nearby contract of Natural Gas. This contract will expire on Thursday, March 27th, which is also the same day the EIA will release its next storage report. Inflection points commonly occur near the expiration of the nearby contract or major news events, and if Natural Gas holds above $4.26 it appears poised to reverse the decline of Natural Gas in place since 2/24/14.

In my Feb 26th Energy Alert I said rallies often follow a 5 wave pattern. The above chart shows a potential 5 wave pattern is forming and we may have completed the 4th wave down yesterday. The present nearby contract has declined to the breakout point previously discussed shown in green in the chart above. When a market breaks above a key resistance level it often becomes a support level; therefore, we might be in the early stages of a 5th wave rally, which would take us above the previous high for the new nearby contract.

The second chart below is the April 2015 contract of Natural Gas:

There are 5 points to consider from the above chart:

1. Over the last month the Apr 2015 contract has been rallying as shown by the green line in the above chart while the nearby contract was declining. This is classic trade action as large hedgers take profits in the nearby contract and start accumulating positions in contracts further out in time.
2. Note the Apr 2015 contract has been consolidating shown in red near the same price level shown in blue to where it was trading at in the summer of 2013.
3. The summer of 2013 was very mild with no major storm activity in the Gulf of Mexico and the Apr 2015 contract declined only 10% from present levels. Therefore, I believe the downside reward potential of not hedging is only approximately 10% in Natural Gas and even less for electricity.
4. The Apr 2015 contract is forming a similar formation to what the nearby contract was forming in January 2014. Remember, My Video Alerts recorded on 12/16, 12/19, 1/8 and 1/23 explained why I felt Natural Gas was preparing to break above its spring highs, and when it did I projected Natural Gas would rally to $6.00.
5. If the April 2015 contract breaks above last summer’s high near $4.14 it is poised to sharply rally and the cost of hedges for 2015 will increase dramatically.
3. Summary of Risk Factors.

1. Storage levels of Natural Gas at the end of the winter heating season are nearly 50% below the 5 year moving average.
2. Any disruptions in Natural Gas production over the next 7 months will hinder suppliers’ ability to rebuild supplies prior to next winter’s heating season.
3. A warmer than normal summer will increase end user demand thereby hindering suppliers’ ability to rebuild supplies prior to next winter’s heating season.
4. Events in the Ukraine will likely escalate leading to increased exports of Natural Gas by the United States to Europe.
The above list is not an all inclusive list of risk factors, but any one of them would lead to much higher Natural Gas and Electricity rates moving forward. No one knows precisely when the energy markets will again spike upward, but obviously the upside risk is substantial. If you have not already hedged your cost of Natural Gas or Electricity, then whether you realize it or not, you are short these markets. Based on the above risk factors I strongly recommend you hedge your cost of Natural Gas and Electricity at this time.

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. We invite you to call one of our energy analysts to help you plan a hedging strategy appropriate for your situation.

Ray Franklin
Senior Energy Analyst