Energy Prospectus

Natural gas futures broke out to a fresh 7-year high on Wednesday as concerns over supply mount ahead of the transition to fall and winter months. With supply already at alarmingly low levels, the prospects of increased demand as temperatures cool during the fall months pushed Natural gas prices above $5.00 /MMBtu. The strong demand is being met head-on with supply limitations following the arrival of Hurricane Ida in the Gulf states. According to Bloomberg, roughly 78% of US gas production remains offline in the Gulf of Mexico region.

The steep rise in natural gas prices is just one of a myriad of factors driving the debate on inflation, as consumers once again wonder whether recent price increases are beginning to be more structural than transitory. Higher gas prices could present a significant challenge to the Fed’s goal of reviving the US economy, with soaring energy costs potentially limiting overall household spending. A sustained rise in energy prices may cause businesses to raise prices and/or wages in retaliation, putting additional pressure on the Federal Reserve’s view that recent price increases are merely “transitory.”

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MY TAKE: It appears that only two things can bring down natural gas prices.
1. Weather turns very mild soon allowing more gas to go to storage
2. Utilities bring back online a lot of coal fired power plants to lower ngas being used for power generation.

The recent rise in natural gas prices comes as a result of fundamental supply constraints rather than a mere technical breakout. That said, the outlook remains constructive on both fronts for natural gas futures trading on the New York Mercantile Exchange (NYMEX). Following a swift breakout from the 0.786 Fibonacci level to test $5.00, prices have cooled slightly and sit around $4.92.

Given the constructive fundamental setup for natural gas prices, it would not be surprising to see a retest of $5.00 in the near-term despite the current contract already being “overbought” according to the daily RSI. Should there be a reprieve for prices, a retracement to the 0.786 Fib level at $4.776 could set natural gas up for another retest of the $5.00 level. Continuation of this move could see the 1.618 Fibonacci extension come into play at $5.69, with the 2014 high just beyond that at $6.493.
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MY TAKE: The argument can be made that the OCT21 contract is ahead of the fundamentals since there is no physical shortage today. However, many utilities are looking at their inventories and they don't see enough gas to make it through a cold winter. The LNG exporters are also in the "Bidding War". My advice to our upstream companies is to use collars to hedge their 2022 production. Right now they could get floors at $3.50 to $4.00 with very high ceilings, thus they could keep the upside while locking in one of the best years they've had in decades.