I have made the point in these pages several times that sometimes, for a trader, square is the best position. There is often a feeling among those that trade, whether from home or in a dealing room, that they should always be doing something. I mean, markets move around all the time, right, so isn’t there always money to be made? Well, yes, but sometimes a market sets up and is poised for a move, it’s just not possible to predict in which direction. That is the case right now with natural gas.
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Natural gas futures have now spent nearly three weeks trading in a range of $2-$2.20. There has been some good intraday volatility during that period for sure, but for those focused on swing trading rather than day trading it has been frustrating to see no follow through.
What is happening here seems to be essentially a battle between the past and the future. The recent past of natural gas in the U.S. has been well documented. The shale boom may have led to some oversupply in oil but it is nothing compared to what it did to natural gas. Production has increased dramatically over the last five years or so as the gas from the new wells has come on line and demand had no hope of keeping up. As a result prices collapsed from around $6.50 to under $2
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The future, however, suggests that there may be some relief coming. As with oil the old adage of low prices being the cure for low prices has taken a long time to play out this time around, but as the drastic cuts in capex by E&P firms begin to be felt it will have an effect. In the case of gas that natural dynamic could well be exaggerated by the introduction of the infrastructure necessary for manufacturing and exporting liquefied natural gas (LNG). With prices in most of the world at around 3 times what they are here in America exports will bump prices effectively if enough gas can be moved.
The knowledge that that is coming makes the long term picture less dire, but for now we still are producing far more gas than is used or even can be stored. Hence the price is range bound. Markets are essentially forward discounting mechanisms, so before too long the future dynamics will take over and that makes shorting natural gas, especially at these levels a very risky play. Until we get some movement out of this range, then, square really is the best position.
If forced to predict where the next move would be I would say that we will break down below $2 before heading higher. The dollar seems to be bouncing back off of recent lows which will put downward pressure on prices and the resistance at 2.20 looks strong, having been tested four or five times. Add to that the continued worries about global and U.S. growth and pessimism seems to be the dominant mood.
The problem, though, is that I am not very confident in that prediction, and even if it comes to be there is not a lot of room to profit from a drop in prices. My strategy here, therefore, is to wait and see with the intention of buying on a break in either direction. If we drop down to below $2 then it sets up a buy with a stop loss at about 1.85. If on the other hand we break above $2.20 then the logical stop is just below that level.
It may seem strange to some that I intend to buy something, but would actually be more comfortable in many ways buying it higher than current levels. Those that fully understand why that is the case, though, understand the difference between trading and gambling on the market. Waiting gives the chance of buying lower and buying higher allows for a clearly defined, logical stop and a trade with momentum behind it. Buying now, however, would have no logical basis and be simply the product of frustration, and that would be bad trading.