Arctic Air And The Threat Of $70 Oil

Natural Gas Outlook

Natural gas producers may have set a record for stockpile additions in the last week in October, but this didn't sway traders who continued to push the market higher in anticipation of colder weather.

Current weather reports suggest that the U.S. is about to get hit with a blast of Arctic air next week. This is putting a lid on the selling pressure as traders expect a sharp increase of heating demand to put a dent into the record supply.

According to the latest data from the U.S. Energy Information Administration, producers finished the Fall storage refill season with a 91-billion-cubic-feet injection to stockpiles during the week-ended October 31. This was 5 bcf larger than traders expected and more than double the typical addition for that week of the year in the production cycle. According to 20-years of EIA records, the addition also represented a 17% increase over any addition for the last week of October.

An injection of this magnitude would normally hit natural gas futures hard, however, the January Natural Gas futures contract merely dipped. This suggests that the size of the injection had already been priced into the market, and that the cold weather is coming. After the initial dip, the market stabilized and prices eventually recovered pre-report levels.

Now that the seasonal injection period is over, investor focus is likely to shift to the prospect of strong heating demand. This, combined with low price levels has given speculative bargain hunters and bottom-pickers an excuse to aggressively pursue the long-side of the crude oil market at current low price levels. Volatility and upside momentum could also increase substantially not only because of the fresh buying, but also because a large number of short-sellers will have to cover.

Natural gas traders should note that the market reached its seasonal bottom last year on November 6, 2013. This helped stabilize a bearish market initially as investors waited for the cold weather to take hold. Eventually they were rewarded with the "Polar Vortex" which created a prolonged or lingering cold weather pattern, leading to a huge draw down in supply. This season seems to be shaping up in a similar manner.

This season's bottom may have occurred two weeks early given the cold weather surge that has helped drive natural gas prices higher during its current longest rally of the year as traders priced in an expected sharp rise in heating demand. The market could rally even further next week if the forecasts continue to predict even colder temperatures than earlier in the week.

According to MDA Weather Services, a "polar outbreak" could hit two-thirds of the country next week. This blast of cold air could bring in record cold which could drop temperatures in major demand areas to more than 13 degrees below normal. Citigroup analysts are also supporting lower temperatures. They are predicting that the number of heating degree days is likely to be 20% larger this November than the month's 10-year average.

The end of the aggressive production season coupled with the return of cold weather to key demand areas is likely to be supportive until the weather forecast changes back to normal temperature ranges. This is unpredictable however. Given last year's lingering "Polar Vortex", buyers may overreact to predictions of cold temperatures this year because they saw what they can do to price stability last year. This could trigger a tremendous rally over the near-term and perhaps near panic buying conditions.

Technically, this year's market is already higher than it was last year at this time when the market surged to $5.888 during the cold season. This suggests that a return of the same conditions as last year could put prices as much as $1.00 over this level under the same cold weather conditions.

It is suggested that you look at the March 2015 natural gas futures contract so that if a longer-term move develops, you won't have to deal with the rollover in the December, January and February contracts.

After reaching a bottom at 3.648 on October 27, short-covering drove the market to 4.294 on November 5. Value buyers may want to wait for a pullback into 3.971 to 3.895.

The longer-term range is 4.875 to 3.648. Its retracement zone at 4.261 to 4.406 is currently being tested. Initially, this zone should act like resistance. The longer prices linger in this zone, the greater the move once it breaks out of this area.

Since this is a weather-driven market, traders should prepare for expanded ranges and increased volatility.

Crude Oil Outlook

December crude oil prices fell this week to levels not seen since early 2009. The catalyst behind the selling was a price cut for U.S. buyers by Saudi Arabia. Rather than cut production, the Saudis decided that they would try to lure more buyers toward them with cheaper prices. They already said they are comfortable with $80 crude oil.

Other OPEC members need $80 to $100 crude oil to balance their budgets so they are not likely to follow Saudi Arabia's lead. This may cause problems at the next OPEC meeting on November 27.

Talk is already circulating that OPEC would likely cut production if oil prices fall to $70 per barrel. Some traders even suggest that $70 crude oil would cause a panic by OPEC since many members had gotten used to $100 crude oil.

So far, OPEC ministers have not issued an official statement to the nearly 25% slide in oil prices since June.

It is probably best to keep crude oil on your watch list at this time since prices may consolidate or fall further toward $70 going into the November 27 OPEC meeting. This price seems to be the "line in the sand" so to speak so aggressive traders should prepare for some volatile price action if this level is tested and OPEC members take action.