Natural Gas Prices Could Be Poised To Break Out

As I have said here many times before, institutional traders are like sports talk radio host in that they consistently overreact to every bit of news. Having been there, I know why. When you are 100% focused on something all day every day, any headline that directly affects that thing seems to have huge significance. So, when I think I see an opportunity based on a market underreaction to a news story, I proceed with care. Given the inherent and understandable tendency of traders to overreact in the short term it is far more likely that it is I who have the impact of the news wrong when that happens than that everybody else has missed something.

Try as I might, though, I just cannot see what happened in natural gas this week as anything but an underreaction to what should have been a big story. On Wednesday morning, U.S. President, Joe Biden and UK Prime Minister, Rishi Sunak, announced a deal to expend US exports of natural gas to the UK. Natty reacted by reversing what was a strong downtrend, but when you think of the implications of this deal, the retracement looks like an underreaction and is probably just the beginning of a sizeable upward move.

The deal itself was no great shakes and was in some ways more of a political statement than a commercial agreement, but its implications go far beyond that. It consisted of setting a target for US exports of LNG to the UK next year of 9-10 billion cubic meters. That sounds impressive until you realize that so far this year, the UK has imported around 11 billion cubic meters of LNG to Britain. It makes sense in that context that natty jumped on Wednesday in response to the prospect of continued exports, but hardly set the world on fire. That move, though, and Thursday's weak follow up, don't seem to be accounting for what this really means.

It means that US gas production will continue to be in demand for export to a part of the world where landed natural gas prices are many times what the commodity fetches domestically. It also means that President Biden felt confident that America could keep that commitment, so is presumably not expecting major delays in the expansion of liquefaction and export capacity that is currently underway in the Southeastern part of the country.

Add those things together and you have the prospect of significant upward pressure on gas prices that could last throughout 2023. If that is the case, you can see why I view the 11.5% increase in natty over the last two days as an underreaction.

There must be a reason for that, and the most likely one seems to be that gas was falling before, based on warm weather and questions about growth levels as the US economy flirts with recession. Both of those raise demand questions, but with both the UK and Europe taking as much gas as they can get to replace Russian supply, serious weakness in demand looks very unlikely over the next year.

While the reaction to the news in the futures contract, NG makes sense in some ways, it is hard to escape the belief that there is a lot more to come. So, I for one will be trading natty with a long bias until anything changes, expecting a quick return to the recent highs around $7.50, and maybe even a move higher after that.