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June 17, 2019

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Natural Gas Undervalued As Temperature Outlook Warms & Supply/Demand Imbalance Tightens While Crude Oil Remains A Challenge On Middle East Tension & Storage-Supply/Demand Disconnect; Natural Gas & Oil Short Trades Exceptionally Overcrowded Setting Up Potential Future Short Squeeze; Gas Demand To Hold Steady Today With Warm East & Cool Heartland


6:00 AM EDT, Monday, June 17, 2019
One day after falling to $2.32/MMBTU and a new 3-year low, natural gas prices bounced sharply on Friday to finish the week on a high note. The July 2019 front-month contract finished near session highs up 2.7% to $2.39/MMBTU. As a result, the contract finished the week up 2.1%, the first weekly gain in the last five. The primary driver for natural gas prices last week was a steady warming trend in the near- and longer-term computer models. While daily natural gas storage injections were consistently very bearish throughout the week as unseasonably chilly temperatures dominated the central US, it is looking increasingly likely that this pattern will finally break down beginning later this week. For the first time in over a month, both the ECMWF ENS and GFS ENS short-term models are now forecasting 14-day accumulated gas-weighted degree days (GWDDs) to be above their long-term averages. While this won't immediately translate to bullish storage builds due to a persistent (but improving) loose temperature-adjusted supply/demand imbalance, I am expecting, at most, only one more triple digit build this season. Subsequent daily builds will be generally within 10 BCF of the 5-year average. And should powerburn continue to make year-over-year gains as temperatures warm, these builds could very well be smaller-than-expected. Given the improving temperature outlook and tightening temperature-adjusted supply/demand imbalance, I am maintaining my $2.60/MMBTU upside price target, representing 9% upside potential from current prices.


Meanwhile, oil prices rose for a second straight day on Friday as investors continued to react to rising geopolitical tensions in the Middle East. WTI rose 23 cents or 0.4% to settle at $52.51/barrel while Brent added 70 cents to $62.01/barrel. The gains came one day after WTI jumped just over 2% following the apparent targeting of crude oil and chemicals tankers by Iran in the Gulf of Oman and it seems that traders are still evaluating the possible impact of this threat. Additionally, the commodity found strength after Baker Hughes reported that the oil rig count fell for the fifth time in the last six weeks. While the count only fell by one rig to 789, it is is now down a whopping 84 rigs year-over-year, as shown in the Figure to the right. Of note, the natural gas rig count fell a steeper 5 to 181 rigs, and is down 13 rigs from 2018. Nonetheless, WTI still finished the week with a 2.7% loss, the sixth weekly loss in the last eight weeks. The losses were driven by another EIA-reported weekly build in what is typically the season for storage withdrawals, though at +2.2 MMbbls it was considerably smaller than had been expected. Trading oil is a particular challenging right now. On the one hand, at 485.5 MMbbls and rising, oil inventories are alarmingly high for this time of year. However, it is clear through their interventions that have cut cartel output to multi-year lows, OPEC is not satisfied with prices at these levels and will continue to support higher prices. Additionally, the EIA-reported supply/demand balance has supported withdrawals and the EIA has had to include an anomalous large Adjustment Factor to sync supply/demand numbers with reported builds. For yours truly, a trader who relies heavily on fundamental data, this disconnect is particularly disconcerting and makes decision making all the more difficult. Finally, the geopolitical unrest adds its own uncertainty, though I believe, with prices so steeply discounted and only a 3% premium priced in since the most recent attack, the net impact of the threat is bullish for the sector. At this time, I am maintaining a $60/barrel price target on WTI, representing 14% upside.


Thanks to the rebound in both oil and natural gas, my Energy Portfolio rose for a second straight day on Friday, gaining +0.7%. Nonetheless, thanks to steep weekly losses in oil, the Portfolio finished the week down a disappointing -0.9%, though that is off significantly from the week's lows. Overall, the Portfolio is up +8.8% through the first 114 trading days of 2019, or +19.6% annualized. I made only one trade on the week, a Thursday short-sell of DGAZ on the drop to 3-year lows to boost my natural gas long position. Presently, my net long position stands at a moderate 8.6% of my holdings with a 14.4% DGAZ short partially offset by a 5.8% UGAZ short so as to capitalize on leverage-induced decay. As discussed above, I am targeting a $2.60/MMBTU upside price target. At this time, I have no immediate plans to add to this position above $2.25/MMBTU. Meanwhile, my oil long position stands at a robust 12.2% via a short DWT holding. I am targeting $60/barrel and, given the size of the position, have no plans to add to it. In fact, should WTI fall under $50/barrel--which now seems unlikely given the enhanced geopolitical risk--I would likely do a 1:1 transfer of 5%-8% of my short DWT into long UWT, sacrificing future leverage-induced profits for a safer, non-short position. Finally, it is worth acknowledging the horrendous performance of my equity holdings. While my LNG long position is up +8.8% from my basis, my CHK, GLNG, and SWN positions are down -41%, -41%, and -24%, respectively. Fortunately, none of these positions are worth more than 4% of my holdings. I do feel that all three have considerable upside potential and have no plans to take losses on them at this time, though I will also not be adding to them any time soon. Click HERE for more on my current oil and natural gas holdings.


On Friday, the Commodity Futures and Trading Commission (CFTC) released its weekly report detailing Money Manager oil and natural gas holdings on the NYMEX through Tuesday, June 11. Unsurprisingly, the Commission reported significant selling pressure in both sectors. Starting with natural gas, the CFTC announced that open long positions inched lower by 1,751 contracts to a new 52-week low to 162,258 positions while shorts surged by 40,771 to a new 52-week high of 280,481. This is more than double the 105,000 short contracts from this time last year. As a result, the Bullish Sentiment--the percentage of open contracts held long--fell another 4% to 37%. Not only is this a new 52-week low, it is a massive 34% below the 52-week average of 71% and 50% below the 52-week high (actually all-time high) of 87% set less than 7 months ago. This is the lowest that Bullish Sentiment has been since March 2016, a time when the commodity was trading under $2.00/MMBTU. The natural gas short trade is exceptionally overcrowded right now. As I've discussed before, while this reflects negatively on current sentiment, it does mean that the sector is highly susceptible to a short squeeze. Should fundamentals shift in such a way that supply/demand balance tightens--especially with inventories nearly 900 BCF lower than in that 2016 comparison--these greedy short holders may be forced to abandon their trades, exaggerating an upward move. It will take ALOT of buying and covering just to get the Bullish Sentiment back to the 52-week average. Overall, I believe that this exceptionally skewed sentiment is long-term bullish for natural gas. Click HERE for more on the latest CFTC-reported natural gas money manager data.


Turning now to oil, despite aggressive selling over the past six weeks, that sector had remained more resistant to the full-scale takeover that the bears had staged in natural gas. That seemed to change last week. The CFTC announced that long positions tumbled by 24,136 to 214,928 contracts while shorts jumped 27,839 contracts to 96,527, as shown in the Figure to the right. While both are shy of their 52-week low and high, respectively, the combination resulted in the Bullish Sentiment seeing its sharpest drop of the year, a 9% weekly plunge that took the sentiment down to 69%, 14% below the 52-week average of 83% and 16% lower year-over-year. The Bullish Sentiment was as high as 90% as recently as the last week of April. While not as skewed to the same extent as natural gas, the WTI short trade is still very overcrowded and the same implications hold. And unlike natural gas--whose fundamentals are unlikely to transition rapidly from strongly negative to strongly positive during the relatively low-key cooling season--oil is far more likely to be threatened by the aforementioned short squeeze. Not only could inventories switch quickly from injection to withdrawing if the previously discussed Adjustment Factor reverts closer to zero, but any exacerbation of the building tension in the Middle East, could result in an abrupt change in sentiment that could drive a squeeze facilitated by the low Bullish Sentiment. Click HERE for more on current CFTC-reported NYMEX money manager holdings.


The EIA will release its weekly Natural Gas Storage Report for June 8-14 this Thursday at 10:30 AM EDT. I am projecting a +102 BCF injection, 18 BCF larger than the 5-year average and 7 BCF bearish versus the 5-year average. As shown in the Figure to the right, it would be the second largest injection in the last 5 years for the week, 10 BCF smaller than the +112 BCF build in 2014. It will be the 14th straight bearish injection and the sixth straight triple digit injection, the longest streak since 2014. Should a +102 BCF injection verify, natural gas inventories would rise to 2190 BCF while the storage deficit versus the 5-year average would contract to -212 BCF. Storage would finish the week +196 BCF than this time last year. Click HERE for more on this week's projected storage injection.


Over the weekend, natural gas demand began to rebound as the unseasonably chilly temperatures that had dominated much of the eastern two-thirds of the nation over the past two weeks finally abated. I projected daily builds of +15 BCF/day and +13 BCF/day on Saturday and Sunday, respectively, still considerably bearish versus the 5-year average +10 BCF/day. Additionally, projected Realtime inventories topped 2200 BCF on Saturday afternoon, 21 days ahead of 2018's pace--a pace that I expect to see slow heading further into the summer as temperatures warm and the supply/demand imbalance tightens. Additionally, the year-over-year storage surplus topped +200 BCF for the first time since August 2016. Look for today's natural gas storage injection to hold relatively steady from Sunday's level. High temperatures along the Eastern Seaboard will be heating up with Richmond, VA and Norfolk, VA both reaching the low-to-mid 90s while Washington, DC could reach the upper 80s. Philadelphia and New York City will be near-average in the low 80s and near 80F, respectively. On the other hand, temperatures across the Central US will remain quite cool, though not with the 20F-30F anomalies that were seen last week. Chicago will struggle to 70F today while Kansas City only sees the mid-70s, each around 10F cooler-than-normal. Across the nation's largest natural gas consuming state of Texas, highs will be a more modest 5F cooler-than-normal, generally in the mid-80s to lower 90s state-wide. Overall, today's forecast nationwide population-weighted mean temperature will warm by 0.2F to 73.1F, still 0.8F cooler-than-normal. Total Degree Days (TDDs) will rise to 9.6 TDDs, still 1.5 TDDs fewer than normal and the 15th fewest for June 17 in the last 38 years since 1981. Click HERE for more on today's temperature and degree day outlook.


Based on this forecast and early-cycle pipeline data, I am projecting a +13 BCF/day daily natural gas storage injection for today, unchanged from Sunday and 3 BCF bearish versus the 5-year average. By tonight, projected Realtime natural gas inventories will top 2230 BCF while the storage deficit versus the 5-year average will fall to -203 BCF. Year-over-year inventories will finish the day +204 BCF higher. Click HERE for more on today's projected daily injection and Realtime natural gas inventories. For the remainder of the week, gas demand will hold roughly steady through tomorrow before picking up some on Wednesday and Thursday as warmer temperatures expand into the Southeast and Ohio Valley, though I do expect builds to remain above the 5-year average throughout the week. At this time, I am targeting a +91 BCF injection for the week, 21 BCF bearish versus the 5-year average.