Futures market: Taking a big bet on natural gas
Today's Financial News - Posted August 20, 2009
Natural gas prices are dropping like a rock today, but the bearishness is not preventing a few bulls from taking million-dollar stands. As winter approaches, things are going to get very interesting.
By Andrew Snyder, TodaysFinancialNews.com
Baltimore – (TFN): The gap between the crude and natural gas markets continues to expand. The world is concerned with having too little of the former and too much of the latter.
As I write, front-month natural gas futures are selling at a level we have not seen since August of 2002 (when the equities market was claiming a low of its own), just $2.93 per million BTUs.
The contract price has fallen by more than 6% during today’s session.
It is certainly not good news for domestic companies that worked overtime to expand their drilling range during the bullish run we saw over the past several years.
Pennsylvania, West Virginia, Ohio and New York all saw companies like Chesapeake Energy (NYSE:CHK) and Andarko (NYSE:APC) knocking on the door of property owners, willing to sign big checks to get their hands on mineral rights.
But now that the nation’s economy has ground to a halt and gas prices have fallen off a cliff, producers are wondering what in the world they were thinking. All they can do is shut down the drills and close the valves.
The further natural gas futures fall, the more output will be stricken from the market. It is a race to see which side of the equation can reach equilibrium first.
The tide is turning
If you have been following this site throughout the summer, you know I have remained bullish on natural gas. And if you are a TFN Strategic Trader subscriber, you know I have made several recommendations in kind.
Judging by today’s headlines, I am not alone.
According to the Financial Times, an unnamed hedge fund has spent millions to gobble up extremely bullish natural gas options with expirations later this winter. Specifically, the fund bought contracts with $10 strike prices that expire in January and February.
That means the fund is showing its confidence that natural gas prices will more than triple in the coming months. If it happens, or comes anywhere close to happening, the mysterious hedge fund stands to rake in tens of millions of dollars.
If it doesn’t happen, of course, and the situation gets even worse, the mysterious fund could lose everything.
So why would anybody make such a move?
Several reasons. First, even if natural gas prices do not hit the $10 strike price, the options could surge above last week’s trading price of $0.056 with even a slight short-term spike in prices or bullish speculation.
A four-percent turnaround in gas prices in the near future could lead to a triple-digit gain for the fund. That’s the beauty of options.
Beside an all-out speculative play, the firm could be hedging its book with the move. After already making a slew of cash playing the downside, this could be its plan to help ensure it keeps those gains even if prices make a quick turnaround.
The bullish argument for gas prices is an easy one to make. As natural gas prices and demand have plummeted over the last year, producers have cut their production. They have cancelled plans for new exploration and have slowed their development of new wells.
Eventually, the current market oversupply will turn into a shortage. When it happens, which very well could be this winter, prices will surge until equilibrium is met in the opposite direction.
Whenever the market’s pendulum swings this far, its momentum will carry it to the extremes of both sides.
Now is the time to enter natural gas plays, when nobody else wants to do it. The easiest way to make the move is to check out TFN Strategic Trader’s portfolio. There is more than enough in there to get you drooling.
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