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Natural Gas Trading: A Volatile Market with Global Impact
BY Janne Muta
|August 8, 2024Natural gas trading is characterised by significant volatility and pivotal global influence. From electricity generation to heating and industrial processes, natural gas plays a crucial role in our energy ecosystem. This article explores the natural gas market, highlighting top companies, market fundamentals, trading methods, and risk management strategies. Gain insights into the complex dynamics of natural gas trading and stay ahead in this ever-evolving market.
Why Natural Gas is the Trader's Market
Traders commonly prefer volatile markets over less volatile ones because they believe volatility can create more and bigger profit opportunities. The Natural Gas market can cater to this need, but it is important to remember that bigger profit opportunities come with a significant risk of capital loss.
In the chart above, we have line-on-close charts for some of the most traded markets: gold, Dow Jones Industrial Average, USD/JPY and silver along with natural gas. Even though most of the other markets in this list are probably more favoured by traders than natural gas, it is the natural gas market that has been the most volatile between January 2020 and August 2024.
The absolute range for natural gas closing prices over this period is 256%, while other highly popular markets like gold and USD/JPY have ranges of 72% and 55%, respectively. The Dow Jones Industrial Average was the second most volatile market with a range of 119%.
Top Natural Gas Companies
Natural gas trading involves several key players who dominate the industry through significant production and consumption. Eni, BP, Equinor, ExxonMobil, and Royal Dutch Shell are some of the top natural gas companies globally. These firms have extensive operations in exploration, extraction, and distribution, making them influential in the market.
Eni, an Italian multinational, is known for its comprehensive natural gas operations in Europe and Africa. BP, based in the UK, has a significant footprint in the natural gas sector, with activities spanning exploration, production, and liquefied natural gas (LNG) markets. Equinor, a Norwegian company, is a major player in natural gas, particularly in Europe, with extensive offshore production facilities.
ExxonMobil, an American multinational, has a diverse portfolio in natural gas, including significant shale gas operations in the US. Royal Dutch Shell, headquartered in the Netherlands, is one of the largest natural gas producers globally, with substantial LNG operations that supply various regions.
The Biggest Producers
The biggest producers of natural gas are typically those with extensive reserves and advanced extraction technologies. The United States, Russia, and Qatar are among the largest producers. The US has leveraged its shale gas reserves to become a leading producer, while Russia's vast conventional reserves support its significant output. Qatar is a major player in LNG production and export, supplying many countries worldwide.
The Biggest Consumers
On the consumption side, countries like the United States, China, and Russia are the largest consumers of natural gas. The US uses natural gas extensively for electricity generation, industrial processes, and heating. China’s growing industrial sector and push for cleaner energy sources have increased its natural gas consumption. Russia, despite being a major producer, also consumes a significant amount of natural gas domestically, particularly for heating and industrial use.
The Top Five Ways of Using Natural Gas
Natural gas plays a crucial role in the global energy mix, providing a reliable and relatively clean energy source compared to coal and oil. Its versatility and efficiency make it a key component in meeting energy demands across various sectors.
- Electricity generation: Natural gas is a primary fuel for generating electricity. It is favoured due to its efficiency and lower emissions compared to coal-fired power plants. Combined cycle gas turbine (CCGT) plants, which utilise natural gas, are known for their high efficiency and ability to quickly ramp up production to meet peak electricity demands.
- Heating (residential and commercial): Natural gas is extensively used for heating purposes in both residential and commercial settings. It is used in furnaces, boilers, and water heaters, providing a cost-effective and efficient means of maintaining comfortable indoor temperatures, especially in colder climates.
- Industrial processes: Natural gas is essential in various industrial processes, including the production of glass, steel, cement, and ceramics. It is used as a fuel for heating and as a feedstock in chemical reactions, contributing to the manufacture of a wide range of products.
- Transportation (LNG and CNG for vehicles): Natural gas is used as an alternative fuel for vehicles in the form of LNG and CNG. It is particularly popular in heavy-duty transport and public transportation sectors due to its lower emissions and cost advantages over diesel and petrol.
- Feedstock for chemicals and fertilisers: Natural gas is a key raw material in the production of chemicals, fertilisers, and hydrogen. It is used in processes such as steam methane reforming to produce hydrogen, which is then used in the synthesis of ammonia for fertilisers.
Supply and Demand Dynamics
Understanding supply and demand dynamics is crucial for natural gas trading. Market participants need to grasp the underlying factors that influence supply and demand to make informed trading decisions. Several key factors play a role in determining the supply and demand balance in the natural gas market.
- Production levels: Determined by extraction activities and technological advancements, production levels are a primary factor influencing supply. Innovations in drilling technologies, such as hydraulic fracturing and horizontal drilling, have significantly increased natural gas production, particularly in the United States.
- Storage inventories: Storage levels reflect the balance between supply and consumption. High storage levels typically indicate an oversupply situation, which can lead to lower prices. Conversely, low storage levels can signal tight supply conditions, potentially driving prices higher. Monitoring storage data is essential for understanding market trends.
- Consumption rates: Driven by economic activity, seasonal needs, and energy policies, consumption rates directly impact natural gas demand. During periods of strong economic growth, industrial demand for natural gas increases. Seasonal variations, such as higher demand for heating in winter, also play a significant role in consumption patterns.
Increased production or high storage levels tend to lower prices as supply outpaces demand. Conversely, higher consumption, especially during peak winter heating seasons, can raise prices due to increased demand. Seasonal variations and unexpected changes in supply or demand can lead to significant price fluctuations, making it essential for traders to stay informed about these dynamics.
In natural gas trading, understanding these market fundamentals is key to making strategic decisions. By analysing production trends, storage data, and consumption patterns, traders can better anticipate market movements and adjust their positions accordingly.
Market Influences and Trading Methods
Seasonal Patterns
Prices typically rise in winter due to heating demand. Winter months see increased demand for natural gas for heating, leading to higher prices. Conversely, prices fall in summer due to lower demand. Lower heating requirements in summer result in decreased demand and lower prices. Seasonal patterns are thus a significant factor in natural gas trading, influencing market dynamics and pricing strategies.
Geopolitical Factors
Geopolitical tensions, natural disasters, and changes in energy policies can significantly impact natural gas markets. Events such as geopolitical conflicts, natural disasters, and shifts in energy policies can disrupt supply chains and influence market prices. For example, geopolitical tensions in key producing regions can lead to supply disruptions, causing price volatility. Traders must monitor global events closely to anticipate market movements and adjust their strategies accordingly.
Trading Natural Gas, Methods
- Futures & options: Financial instruments that allow traders to hedge against price volatility and speculate on future price movements. Futures contracts obligate the buyer to purchase, and the seller to sell, a specific quantity of natural gas at a predetermined price and date in the future. Options provide the right, but not the obligation, to buy or sell natural gas at a specified price within a certain timeframe.
- Exchange-Traded Funds (ETFs): Investment funds that track the performance of natural gas indices, providing exposure to the commodity without direct involvement in the market. ETFs are traded on stock exchanges and offer a way to invest in natural gas without dealing with the complexities of the futures market.
- Contract for Differences (CFDs): Derivative products that allow traders to speculate on price movements without owning the underlying asset. CFDs offer flexibility and leverage, enabling traders to potentially profit from both rising and falling markets. However, they also carry higher risks due to leverage.
Natural Gas Trading: Recent Trade Examples
Swing Trade, Entry and Exit
Soon after closing above the 2.114 market structure level, natural gas rallied. The market then retraces to the same level before starting a rally that lasts until the next morning, European time. This hypothetical swing trade example illustrates several key aspects of natural gas trading. Initially, the market trends higher and breaches a key resistance level. It then retraces back to this level and begins to lose downside momentum, as indicated by the RSI indicator turning upwards before the market rallies again. The close above the 2.114 level and the bullish rejection candle demonstrate strength, initiating a swing trade. Trade exit occurs after the market loses upside momentum following the first price swing. Traders commonly use similar analysis to identify and execute trades in various markets, including natural gas.
Natural Gas Trading, Intraday Trade
The natural gas 5-minute chart shows a double bottom formation, a technical pattern that is a common setup for intraday traders. Once the market breaks out of this double-bottom formation, it suggests a bullish reversal, indicating that prices are likely to rise.
Once the neckline is broken, intraday traders enter the market with buy orders. This suggests increased bullish sentiment as traders participate in the upward movement in price bidding the market higher. The neckline serves as a resistance level, and its breach indicates that the demand is strong enough to absorb the supply around the resistance level (the neckline).
The chart also highlights a bullish divergence in the Relative Strength Index (RSI). Despite the price chart showing equal lows, the RSI indicator moves higher, indicating a shift in momentum. This divergence is a signal that the downward pressure is waning, and an upward trend could be soon developing. Traders use this divergence to confirm their expectations of a bullish reversal.
After a breakout above the neckline at the 1.995 level, natural gas trades higher, forming a well-defined upward trend channel. The steady rise in price is a sign of a bullish market phase, where buyers dominate the trading activity.
Later in the New York trading session, a bearish divergence in the Relative Strength Index (RSI) alerts traders to weakening momentum, prompting them to prepare for exiting the long trade. Despite the market reaching a higher reactionary high, the RSI forms a lower high, signalling that the momentum driving the upward movement is fading. This divergence suggests that although the price continues to climb, the underlying strength is diminishing. Traders often interpret this as an early warning sign of a potential trend reversal, indicating that the bullish trend may soon come to an end.
When the market eventually breaks below the upward trend channel the break acts as a signal for traders to sell. The breach of the trend channel support, combined with the bearish divergence in the RSI, reinforces the expectation of a trend reversal. These technical indicators are commonly used in natural gas trading to identify potential exit points and to manage trading strategies effectively.
Risk management in natural gas trading
In natural gas trading, risk management is crucial. Traders who understand this often risk between 0.5% and 2% of trading capital, depending on experience. Beginners should risk less, while experienced traders with proven strategies might want to risk more. They avoid placing stops too close, as they may get triggered prematurely; stops be placed to levels where the market isn't likely to trigger the stops unnecessarily. Traders keep risk constant by adjusting position sizes relative to the distance between entry and stop prices, maintaining, for example, a 2% risk. Experienced traders adjust trade sizes based on confidence: they risk more when highly confident and reduce trade size when uncertain. This approach helps to balance risk and market exposure.
Conclusion
In conclusion, natural gas trading presents unique opportunities due to its volatility and the significant role it plays in the global energy landscape. Understanding market fundamentals, such as supply and demand dynamics, seasonal patterns, and geopolitical factors, is essential for making informed trading decisions. Traders can utilise various methods, including futures, options, ETFs, and CFDs, to navigate this market. Effective risk management is critical, involving careful position sizing and stop placement. Stay informed, adapt your strategies, and manage risks wisely to succeed in natural gas trading. Ready to take the next step? Register a trading account with TIOmarkets.uk today.
While research has been undertaken to compile the above content, it remains an informational and educational piece only. None of the content provided constitutes any form of investment advice.
TIO Markets UK Limited is a company registered in England and Wales under company number 06592025 and is authorised and regulated by the Financial Conduct Authority FRN: 488900
Risk warning: CFDs and Spreadbets are complex instruments and come with a high risk of losing money rapidly due to leverage. 76% of retail investor accounts lose money when trading CFDs and Spreadbets with this provider. You should consider whether you understand how CFDs and Spreadbets work and whether you can afford to take the high risk of losing your money
DISCLAIMER: TIO Markets offers an exclusively execution-only service. The views expressed are for information purposes only. None of the content provided constitutes any form of investment advice. The comments are made available purely for educational and marketing purposes and do NOT constitute advice or investment recommendation (and should not be considered as such) and do not in any way constitute an invitation to acquire any financial instrument or product. TIOmarkets and its affiliates and consultants are not liable for any damages that may be caused by individual comments or statements by TIOmarkets analysis and assumes no liability with respect to the completeness and correctness of the content presented. The investor is solely responsible for the risk of his/her investment decisions. The analyses and comments presented do not include any consideration of your personal investment objectives, financial circumstances, or needs. The content has not been prepared in accordance with any legal requirements for financial analysis and must, therefore, be viewed by the reader as marketing information. TIOmarkets prohibits duplication or publication without explicit approval.
Janne Muta holds an M.Sc in finance and has over 20 years experience in analysing and trading the financial markets.
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