Here’s How to Play the Next Sharp Move in Natural Gas

It has been a while since I wrote anything about natural gas. In fact, looking back, the last time I gave an opinion on natural gas futures (NG) was at the beginning of September last year. At that time, with NG having just established itself back above the $2 mark, I wrote that I had a long term bullish view, but that in order to avoid rollovers and to limit the downside, I would play it by buying UNG rather than through the futures market. Obviously, if you look at the chart below, that worked out pretty well, but for me, “long term” when it comes to futures markets, off which I based the position even if I played it with an ETF, is at most a couple of months, so I didn’t get the full benefit of the doubling of natty’s price that we have seen since then.

I mention this, not to point out how clever I am (although if you want to conclude that, who am I to stop you!), but rather because since that run up last September, I have pretty much left natty alone. The main reason for that is because, although that trade worked out, I have found NG very hard to read or predict over the last few months.

There are several reasons why.

First, NG has always been very sensitive to the weather, and I am not a meteorologist by any stretch. Even if I were, though, the extremes of weather that we have seen in the US recently would have made predictions based on that extremely difficult. Then there is the influence of the US economy. That is greater on natty than, say, crude…

It has been a while since I wrote anything about natural gas. In fact, looking back, the last time I gave an opinion on natural gas futures (NG) was at the beginning of September last year. At that time, with NG having just established itself back above the $2 mark, I wrote that I had a long term bullish view, but that in order to avoid rollovers and to limit the downside, I would play it by buying UNG rather than through the futures market. Obviously, if you look at the chart below, that worked out pretty well, but for me, “long term” when it comes to futures markets, off which I based the position even if I played it with an ETF, is at most a couple of months, so I didn’t get the full benefit of the doubling of natty’s price that we have seen since then.

I mention this, not to point out how clever I am (although if you want to conclude that, who am I to stop you!), but rather because since that run up last September, I have pretty much left natty alone. The main reason for that is because, although that trade worked out, I have found NG very hard to read or predict over the last few months.

There are several reasons why.

First, NG has always been very sensitive to the weather, and I am not a meteorologist by any stretch. Even if I were, though, the extremes of weather that we have seen in the US recently would have made predictions based on that extremely difficult. Then there is the influence of the US economy. That is greater on natty than, say, crude because the US is a net exporter of natural gas, but only around 10% of US production is exported. That lessens the impact of the global market and forces a focus on US energy use, which is itself a function of economic conditions. With an election at the end of last year and with the Fed’s rate cutting held up by sticky inflation, the American economy has been tough to read and remains that way.

So, it is very rare these days for me to have any kind of tradeable opinion on natural gas pricing.

To be honest, I still don’t, so why am I writing about it now? Well, while I’m not sure of the direction, the chart definitely suggests that natty is about to break one way or the other.

So far this year, NG has twice peaked just above $4.25, once early in January and again just over a week ago. That double top pattern is always interesting, but especially so when the first retracement from the high was so sharp. That suggests we could see a similar, maybe even more dramatic, move down this time. But if there is a third attempt at that level that succeeds there will be a sizeable short squeeze, causing a rapid move up.

In other words, natty is likely to move sharply soon, but it could be in either direction.

From a trader’s perspective, though, that isn’t too much of a problem. There is a simple way of trading upcoming volatility, regardless of direction, and without getting into complex options trades. All you do is place naked stop loss orders either side of the current level. On the top side, the level is obviously just above the previous highs, say at around $4.29. To the downside, somewhere around $3.88 looks reasonable.

A stop loss to initiate a small position if either of those levels is hit, after which you would cancel the other, will leave you with a position in the direction of the momentum. Then, you treat it as any other position, identifying a target and setting a stop. Logically, that stop would be somewhere around the current level.

So, I am in my usual position these days with natty…not having a real idea of where it is going…but the prospect of volatility makes me want to initiate a trade anyway. Placing stops either side of the current level enables me to do that, regardless of whether the next move is up or down.