In the week ending June 28, the inventories spread was -6%. During this period, the negative inventories spread contracted by ~1 percentage point compared to the previous week. On July 3, the EIA (U.S. Energy Information Administration) reported the natural gas inventory data for the week ending June 28. The inventories spread is the difference between natural gas inventories and their five-year average.
Inventories and natural gas prices
Over the last ten years, the prices fell whenever natural gas inventories were higher than their five-year average. Between November 2013 and April 2014, when inventory levels fell short of the five-year average by the highest amount in the past ten years, natural gas prices rose as high as $6.14 per MMBtu (British thermal units in millions).
Since July 3, the natural gas August futures have risen 5.9%. During the same period, natural gas–weighted stocks EQT (EQT), Range Resources (RRC), and Cabot Oil & Gas (COG) rose 4%, 2%, and 1.7%, respectively, and outperformed their peers. These are the only natural gas–weighted stocks that closed in the green. None of the natural gas–weighted stocks matched natural gas gains. Oil prices have been weak. US crude oil prices have risen 0.9% since July 3. EQT, Range Resources, and Cabot Oil & Gas operate with a production mix of ~99.7%, 69.2%, and ~100% in natural gas.
The natural gas price is usually inversely related to the inventories spread. However, the relationship seems to be more biased toward a price downside when inventories rise above the five-year average. The market might be confident about having enough future supply instead of being concerned about demand getting out of hand.
Required change in inventories
On Thursday, the EIA is scheduled to release its natural gas inventory report for the week ending July 5. Any rise less than ~66 Bcf (billion cubic feet) could cause the inventories spread to expand more into the negative territory—a positive development for natural gas prices. Analysts expect an addition of 94 Bcf. If EIA data is in line with analysts’ estimates, then the inventories spread would contract by another percentage point.
Forward curve and natural gas ETFs
As of Tuesday, the natural gas futures contracts for delivery between August and September were priced in descending order. The forward curve is important for ETFs that follow natural gas futures including the ProShares Ultra Bloomberg Natural Gas ETF (BOIL) and the United States Natural Gas ETF (UNG).
Analyzing the forward curve
If the active futures contract expiry is within two weeks, UNG shifts its holdings in active natural gas futures to the following month’s futures contract. As a result, the fund could incur losses if next month’s futures are priced at higher levels compared to the expiring futures when it shifts its holdings. BOIL is also impacted by the upward sloping forward curve. These ETFs might benefit from the forward curve sloping downward for the next two months. On July 2–8, natural gas August futures rose 8.3%, UNG rose 2.9%, and BOIL rose 17.6%.
Natural gas producers’ hedging-related activities take into account the natural gas futures forward curve. The midstream sector’s natural gas transportation, storage, and processing activities are also impacted by the curve.
On Tuesday, the natural gas futures for August 2019 closed at a discount of ~$0.1 to the August 2020 futures. On July 2, the futures spread was at a discount of $0.2.
Unlike the premium, when the spread is in a discount and the discount rises, natural gas prices could decline. In March 2016, the discount reached $0.84 and natural gas hit a 17-year low. A contraction in the discount could coincide with the rise in natural gas prices. The futures spread and natural gas prices tend to move in the same direction. The market sentiment toward natural gas’s demand-supply situation is reflected in the futures spread.
The current contraction in the spread and higher prices indicate that the bearish sentiments have fallen for natural gas. Between June 20 and July 9, the discount contracted by more than half with a 3.5% gain in natural gas prices. Weather forecasts suggest hotter weather in the coming days. The discount might have contracted due to the summer season. However, the contraction in the negative inventories spread might keep a lid on the spread and prices.