Weather In The Driver's Seat

It should be clear to all participants in the natural gas futures market that weather is significantly driving price action. Much of the rally in prices this week can be attributed to the addition of heating demand expectations in the long-range forecast, as far colder weather is expected across the country to close out Friday. The result is that prices closed up just less than 5% on the week. 

To our subscribers, this move was not much of a surprise. On Tuesday, as the late-month pattern shift was first becoming apparent, we sent out a research Note explaining why long-range forecasts should actually be trusted despite mixed historical verification rates. 

This early lead time allowed us to alert our readers that our hypothetical portfolio was going long later in the day on Tuesday, allowing us to capture our largest gains of the year off of this weather-driven move. Now today we see long-range weather forecasts showing a significant amount of colder weather at the surface, with the latest 12z GFS ensembles favoring cold focused across the Southeast on Day 15 (October 28th). 

The natural gas market priced this in by elevating the front of the strip the most through the week, as though expectations of limited storage injections or early storage withdrawals supported the whole strip we clearly saw the front come away with the largest weekly gains. 

Yet one can also see that today the front of the natural gas strip did not see as many gains as the winter strip. This came even as cash prices rallied today. 

Seen another way, the X/Z spread, after rallying this week, pulled back a bit today, indicating more buying interest for the December contract than the prompt month November contract. 

This comes at a time of the month when weather tends to significantly drive both prompt month natural gas and the X/Z spread into the X7 expiry, as we see from this chart we published yesterday that in the past the X/Z spread has trended heavily in both directions this time of year. 

Though long-range modeling guidance still shows the cold that it has been the last few days, it seems the natural gas market is attempting to judge just how long any cold will stick around and how significantly it should elevate demand. The result, then, is that any forecast shifts over the weekend should have a disproportionate impact on price action into next week.