Natural Gas – Sleeper of 2009?

by Travis Steward | June 2, 2009

Technical Analysis Argument

We are writing this article due to a high probability that natural gas has or is very close to bottoming. Natural gas is perhaps the most volatile commodity, and has been locked in a downtrend that can only be described as the worst bear market in the world. The two main charts I will use in this article are the stockcharts.com natural gas tracker ($natgas), as well as the largest ETF that tracks natural gas (UNG):

However, in the last few weeks great changes have occurred in the posture of natural gas. During the bearish paradigm, natural gas has repeatedly failed the 50 day moving average with penny-point precision (blue line):

Any buying continually exhausted at the 50 day moving average (blue line) and was overwhelmed by selling. The neat thing about this consistency was that it foretold very clearly what had to happen to predict a change of paradigm. I will zoom into the previous graph to show how this happened last week by a breakout of the 50 day moving average:

This had major implications, as it said something very clear about the relationship of buyers compared to sellers and their relative capabilities. What happened next was highly predictable as well as NG failed to take out the old high:

If a breach of the old high occurred, within the context of the 50 day break out, it would have asserted a strong argument for the creation of a new uptrend. A breach of the old high implies something very important about the nature of trend. Since it did not breach the old high, the next thing to look for was a higher low than the last before it. We held this low yesterday:

This holding of the low was confirmed on Thursday, May 29th after the release of inventories. Natural gas inventories are released every Thursday at 7:30. I will provide a 3-day intra-day chart to show what happened on the release of inventories:

Why did it lead to a large price move to the bullish side on the news? The answer lies in volume and what it implies about the buyers and sellers. I will zoom back out to a 2 year chart to show what has occurred:

In September, we saw the first spike in volume, largely sellers reacting surely to the crash that occurred in almost all asset classes. Recently, volume has been building dramatically. Whereas the volume in September pushed the price down further, implying overwhelming selling, the volume here appears to be putting in a bottom, implying overwhelming buying. This is likely why we saw the spike at 7:30 as the huge swatch of bulls poured in on the news.

But why here, why now? Why did NG stop at this point and why did so much buying move into the market? The answer lies in viewing NG from a 15 year perspective:

As you can see natural gas found tremendous buying at the 15 year trend-line. This decline was much like the one in 2001-2003 in terms of length and degree. It also provides us with great information as to what to expect going forward. Here is a chart showing the bottoming of natural gas in 2000-2002:

The similarities between these two bottoming patterns so far is almost picture perfect. Aside from the 50 day retest which was a bit of a battle in late 2001, everything else is almost exactly the same. I point out that in the last chart something called an “A-B-C” uptrend. I will show you how that may develop going forward. The next chart is back to our current time period:

All uptrends are established by three waves. This is just a simple logical tool to help determine direction. The B wave that held on the release of the 7:30 inventories is intact. The provided projection is where the C wave might end.

From a longer-term standpoint, we can get an idea of the long-term outlook for natural gas given what occurred at bottoms previously:

Economic Argument

Obviously, this decline is attributable to the decline in economic activity occurring in North America. It is then no surprise that this decline looks much like the decline during the recession of 2001-2002. Why has natural gas bottomed so late after other commodities? The answer is simply that North American natural gas has supply and demand distinct to North America. Since there is no Asian demand on our domestic natural gas, it is simply dependent on the performance of our economies.

Canada will soon start an expansionary trend as the monetary stimulus of low interest rates kick in, and at the very least America will by now have completed its liquidation of mal investments, leading to less downward pressure on NG demand. America will likely not embark on an expansionary boom, as the 0% interest rates in their case imply more of a Japan-like scenario as opposed to the situation occurring in Canada. As mentioned before, the likely reason Canada has 0% interest rates has nothing to do with financial impairment, but rather the fear of a strong loonie due to more favourable interest rate returns in Canada to foreign investors if we kept rates higher than America.

The other consideration is of course the situation with supply. Natural gas is in heavy decline in North America and that will always put upward pressure on the price. That is likely why NG has been in a pretty solid uptrend for the last 15 years. Furthermore, let us not forget the old Alberta adage:

“Low prices bring high prices.”

That’s all for now.

Contact Information

Travis Steward | Vancouver, BC | Email