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February 4, 2019

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Natural Gas Prices Wilts Despite Large Undervaluation & Tightening Market Balance As Unseasonable Warmth Dominates The East & Crushes Demand; Exceptionally Weak -5 BCF/day Daily Storage Withdrawal Expected Today As Demand Bottoms For The Weak; Oil & Natural Gas Portfolio Sees Second Best Month In Its History


6:00 AM EDT, Monday, February 4, 2019
Natural gas continued its steady slide last week, falling 9 cents or 2.8% on Friday to settle at $2.73/MMBTU, the lowest close since July 23. On the week, the commodity fell 11% which followed the previous week's 12% loss. Since reaching $3.48/MMBTU on January 18, the commodity is down 22%, having fallen in 7 out of the last 9 sessions. Unsurprisingly, Mother Nature shoulders nearly all of the blame for the sell-off. Prices initially bounced during the first half of January in anticipation of a late-January return to colder temperatures. That turned into an early- and then a mid-February cooldown. Then, last week, near-term model runs steadily backed off the intensity of the upcoming colder air. The main problem that both the GFS and ECMWF have zeroed in on is that, while there will be plenty of arctic air, it will be largely bottled up and restricted to the Intermountain West and Northern Plains with only brief forays to the major population centers of the East. Over the weekend, the near-term computer models held roughly steady with the GFS calling for below-average 14-day total gas-weighted degree days (GWDDs) and the ECMWF just above-average, as shown in the Figure to the right. Nonetheless, the long-term pattern through the first week of March, remains broadly favorable with ridging across Greenland and Alaska favoring troughing across the Central and Eastern US, as forecast by the 44-day ECMWF-EPS and CFSv2. Click HERE for more on near- and long-term temperature forecasts on my Advanced Models Page.


With the near-term forecast for arctic air restricted and the heating season on the clock, natural gas seems to be adrift without a catalyst to trigger anything more than an oversold bounce. According to my Fair Price Model, natural gas remains undervalued versus its Fair Price of $3.98/MMBTU a steep 32%, which will hold steady over the next month as projected storage withdrawals keep pace with the 5-year average. However, investor sentiment has trended sharply negative over the past two weeks and it would not be surprising to see the commodity continue to fade lower unless the forecast trends significantly colder. Nonetheless, further downside is likely to be limited. After this week's bearish demand, I expect weekly storage withdrawals to be at or above the 5-year average for the remainder of the month and the storage deficit versus the 5-year average could approach -450 BCF, which is conducive to prices under $2.75/MMBTU. Additionally, natural gas production has stalled out under 88 BCF/day, for now, and with prices under $2.75/MMBTU, I expect to see some element of fuel-switching which could tighten supply/demand balance in a temperature-independent matter heading into the spring. We may already be starting to see this. As the Figure to the right shows, based on the latest storage and degree day data as well as the EIA's latest storage data, I calculate that the long-standing year-over-year temperature-independent looseness has continued to contract, narrowing last week to 3.7 BCF/day loose, the tightest since early October, as shown in the Figure to the right. This means that, were temperatures right at normal for this time of year, that day's daily storage withdrawal would be expected to be 3.7 BCF smaller than it would have been last year. This calculation is the cleanest look at underlying supply/demand balance as absolute un-adjusted week-to-week numbers are confounded, particularly during the winter, by wild swings in heating demand that make year-over-year (or 5-year average) comparisons meaningless. While a year-over-year supply imbalance of 3.7 BCF/day is obviously bearish, this looseness has narrowed for 7 out of the last 9 weeks, roughly correlating with the sell-off in prices from mid-November that had reached nearly $5.00/MMBTU. Should prices remain under $2.75/MMBTU, I expect to see further tightening in the weeks to come.


At this time, I am maintaining a $3.10/MMBTU price target on natural gas, representing nearly 15% upside from current levels. My downside price target is $2.60/MMBTU and I feel that any price under this level, with inventories still at a substantial storage deficit, represents a fantastic long-term buying opportunity.


Meanwhile, money that has been pouring out of the natural gas sector, has continued to be directed towards oil. WTI rose $1.47 or 2.7% on Friday to finish the week at $55.26/barrel, its highest close since November 19. Prices were up 2.9% on the week. Brent oil performed even better on Friday, rallying $1.91 to $62.75/barrel, but was only up 1.8% on the week. Oil prices benefited from continued geopolitical chaos in major oil producer Venezuela as well as a bullish EIA-reported +0.9 MMbbl crude oil inventory build last week, driven by a sharp reduction in oil imports. The commodity got a further boost Friday afternoon after Baker Hughes reported that active rigs tumbled by 15 last week, wiping out the previous week's gain of 10. While fundamentals may be finally starting to swing towards the bulls' favor, inventories remain at a large storage surplus and, after an exuberant 18.5% rally in January, it will take only a few bad reports, a resolution to the situation in Venezuela, or a sell-of in US equities for the commodity to rapidly pullback towards $50/barrel. Near-term, I feel that downside risk outweighs upside potential while long-term I remain bullish and am targeting $60/barrel WTI in 2019.


My Oil & Natural Gas Portfolio suffered from continued weakness in the natural gas sector and strength in oil on Friday, falling -1.1% to push weekly losses to -2.5%. The Portfolio finished the month of January up +6.1%, the second strongest month in the Portfolio's history and is currently up +5.0% year-to-date. I made a total of 4 trades last week. The first, on Monday, was a timely reduction in my oil short position by roughly 2/3rds, realizing a +13% profit on the trade and cutting total exposure to just 2.5%, the smallest of my positions. On Wednesday, I added mid-stream producer Kinder Morgan (KMI), the largest natural gas pipeline company and owner of the Elba Island LNG export plant. This position is worth 8.0% of my holdings and is up +1.9% from my basis. Finally, on Friday, I made the difficult decision to reduce natural gas long exposure. Despite the fact that I feel the commodity is steeply undervalued and that upside potential outweighs downside risk, my net long exposure of nearly 15% was from unacceptable from a risk management standpoint. Thus, I covered a 3% position in DGAZ and transferred most of these funds to short UGAZ. This allowed me to maintain roughly the same total exposure to 3X ETFs--19% of my portfolio--and collect the associated benefits of leverage-induced decay, while also reducing long exposure to a safer 9.2% of my holdings. My current upside price target stands at $3.00/MMBTU. And while tempting, I have no current plans to add to my long position on a further pullback. Click HERE for more on my current oil and natural gas holdings.


The EIA will release its weekly Natural Gas Storage Report for January 26-February 1 this Thursday at 10:30 AM EDT. This week covered the massive arctic outbreak across the Plains and Midwest and will likely be the largest of the 2018-2019 heating season. At this time, I am projecting a -247 BCF withdrawal, a massive 97 BCF bullish versus the 5-year average and 131 BCF larger than last year's -116 BCF draw. As the Figure to the right shows, it would be the second largest draw for the week in the last 5 years, behind only 2014's -256 BCF withdrawal. The mean population-weighted nationwide temperature last week was a mere 35.3F, 4.5% colder-than-normal and 3.6F colder than the previous week. On the supply side, production remains stuck under 88 BCF/day and it is certainly possible mid-week freeze-offs took it even lower short-term, further tightening supply/demand balance. Should a -247 BCF draw verify, natural gas inventories would fall to 1950 BCF while the storage deficit versus the 5-year average would rise to -425 BCF, up 125 BCF in the last two weeks. The year-over-year deficit would widen sharply to -145 BCF after briefly flipping to a storage surplus three weeks ago. Click HERE for more on last week's projected withdrawal.


Over the weekend, natural gas demand plunged as temperatures warmed dramatically with areas like Minneapolis and Chicago seeing 4-day temperature swings of 60-70 degrees. As a result, after reaching -49 BCF/day on Wednesday, projected daily storage withdrawals plummeted to -18 BCF/day on Saturday and -7 BCF/day on Sunday, 16 BCF bearish versus the 5-year average of -23 BCF/day. Gas demand will fall to a weekly low today as unseasonable warmth dominates the entire eastern third of the nation east of the Mississippi River. Highs will reach the mid-60s across St Louis, low 50s in Chicago and upper 40s in Milwaukee, all 20F-25F warmer than normal. Across the south, highs could reach the mid-70s in Oklahoma City, Little Rock, and Jackson, MS, all also around 20F warmer-than-normal. Further east, highs will reach the mid-50s in Washington, DC and Philadelphia and upper 40s to lower 50s in New York City and Boston, 10F-15F warmer-than-normal. There will be arctic air across the US today, just very few people will actually see it. Highs in Billings, MT and Bismarck, ND will struggle to top 0F today, 25F-35F colder-than-normal. Minneapolis was near 32F at Midnight and temperatures will fall for the remainder of the day, reaching the low teens by mid-afternoon. However, with the expansive area of warmth across all of the major population centers, today's forecast mean population-weighted nationwide temperature will warm another 1.7F from Sunday to 51.2F, 10.7F warmer-than-normal and 22F warmer than last Wednesday's mean of 29.5F. Total Degree Days will fall to 14.9 TDDs today, 10.2 TDDs fewer than normal and the second fewest for February 4 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 -5 BCF/day daily natural gas storage withdrawal, 2 BCF fewer than Sunday and a massive 18 BCF bearish versus the 5-year average -23 BCF/day. By tonight, I project that Realtime natural gas inventories will be near 1920 BCF. And after falling below -400 BCF by mid-morning, I project that the storage deficit versus the 5-year average will be near -390 BCF. Meanwhile, the year-over-year deficit will be fall 23 BCF to near -102 BCF. Over the past two days, natural gas inventories will have fallen around 12 BCF/day, which toughly around 6 hours last Wednesday during the height of the arctic outbreak. Click HERE for more on today's projected daily storage withdrawal and Realtime natural gas inventories.


While demand will likely bottom out today, the arctic air present over the far northern Plains will not be in a hurry to move southeastward. A ridge of high pressure will remain intact across much of the Eastern Seaboard allow a mild, southerly flow to persist. As the Figure to the right shows, daily withdrawals will remain less than half the 5-year average at under -12 BCF/day through Thursday. By Friday, much colder temperatures will finally--and rapidly--clear most of the Midwest, Great Lakes, and Deep South, allowing withdrawals to climb very close to the 5-year average to wrap up the week. However, it will be far too little too late and I am currently projecting an exceptionally bearish -82 BCF weekly natural gas storage withdrawal for the week of February 2-8. It would be 78 BCF bearish versus the 5-year average, 101 BCF bearish versus the last year's draw and would be the single smallest draw in the last 5 years, topping 2016's -110 BCF withdrawal by 28 BCF. Click HERE for m ore on this week's projected withdrawal.