To many traders, may seem the less glamorous twin of oil. Wars are fought over oil, and benchmark crudes such as and feature regularly in financial news reports.
Those of a certain age can remember the “oil shocks” of 1973 and 1979, the price hikes that twice pushed the west into recession. You would be hard pressed to uncover memories of a “gas shock”.
Most have heard of the 14-nation oil cartel, the Organisation of Petroleum Exporting Countries (OPEC). If there is a gas cartel, it is keeping a low profile.
Neither gasoline nor town gas
Literally and metaphorically, gas is colourless compared with oil. Its image is, in short, a bit, gaseous.
Yet oil and natural gas are not merely linked commodities, but closely intertwined. They are frequently found in much the same geological areas, and they both compete with and complement each other. Indeed, OPEC does take an interest in natural gas and its market performance, as we shall see in a moment.
An understanding of this very intimate relationship is the first step towards acquiring the knowledge and confidence to trade natural gas successfully.
A second step is to define what natural gas is – and is not. Perhaps obviously (although the use of liquid natural gas in cars over recent decades has clouded the issue) it is not “gas” in the sense of “gasoline”, American English for petrol.
Nor is it what the British called town gas, known elsewhere as coal gas, the traditional fuel made from coal in gasworks and piped to people’s homes. Its disadvantages were that it was considered dirty and that it was sufficiently toxic that the expression “head in the gas oven” became a popular euphemism for suicide.
A family of energy sources
As the name suggests, natural gas occurs without human intervention, being created over millions of years by pressure on the remains of dead plants and animals, similar in some ways to the process whereby coal comes into being. But this does not mean it can be used in its “raw” form as an energy source – it needs to be processed and cleaned beforehand.
A successful trader in this field will instinctively know that natural gas is part of the “energy complex”, a family of fuel sources whose prices tend to react to each other and often, although not always, to rise and fall at the same time. These include oil and coal, along with less tradable sources such as nuclear energy and wind and solar power.
Perhaps the most obvious driver of energy prices is the state of the world economy. Natural gas, like oil, is traded internationally, thus its cost reflects overall global economic conditions, rather than the climates of specific national markets.
As demand increases, energy prices, in general, will also tend to rise. It is here that opportunities for traders arise, given that a notable price gap between one source and another is likely to see consumers and, particularly, industrial users switch to less expensive sources.
But before taking positions, it is advisable to check in each case how easy such a switch will be. Few households can change overnight from gas-fired to oil-fired central heating – or vice versa.By contrast, many industrial plants are “dual fired” and would find such a switch far less difficult.
Opportunities arise also, of course, when energy prices are falling, with those convinced there are good reasons for the decline, such as a world economic slowdown, able to take to profit from further drops in price.
But while the global outlook is key to the outlook for natural gas, and while it is true that the energy commodities are traded internationally, not nationally, one national market does play a very major role in the natural gas market – the United States. Traders study America’s winter weather forecasts very closely, knowing that US heating demand has a big impact of demand for, and the price of, natural gas.
We mentioned earlier that OPEC takes a keen interest in the market for natural gas (and for coal). Here is what it had to say in January about the winter now ending: “Coal and natural gas [prices] generally declined as the weather outlook points toward a continuation of a milder winter, despite some cold January spells.”
In years gone by, on both sides of the Atlantic, oil-fire household heating was popular, but the oil shocks of the Seventies prompted switches to coal and, especially, gas. On a lesser scale, the same was true of electricity generation, where many oil-fired power stations were mothballed.
Both developments weaken the link between oil prices and weather.
An eye to future developments
OPEC’s take on oil prices in January again illustrates the differences between natural gas and crude as commodities. “There was a recovery in crude oil prices, in tandem with improving global financial market sentiment, particularly following a shift towards a more patient approach in regard to interest rates increases by the US Federal Reserve.”
The main factor here, therefore, is not cold weather but US monetary policy and its effect on demand for road fuel, both in terms of meeting the needs of the trucking industry, which is highly sensitive to changes in economic activity, and in terms of motoring costs – the US “driving season” from April to September makes up a significant chunk of annual petrol demand.
Yes, natural gas is used in vehicles to, but for now, at least, petrol and diesel, both oil derivatives, are dominant. And, while, as we saw earlier, the overall economic climate, including the level of interest rates, affects the whole energy complex, anything that makes consumers less, or more, likely to spend freely will be rapidly reflected in petrol sales and, after a while, in lower general demand, hitting commercial transport activity.
In other words, natural gas is likely to prove more resilient than oil – although there are no guarantees.
Finally, a natural-gas trader will watch not only oil and coal activity but also the development of less tradable energy sources, whether nuclear or tidal power or anything in between. Coal may have been around for a few centuries, but oil in its present form was, until the Twenties, primarily a source of lighting, while natural gas is the baby of the pack, coming into its own in the second half of the last century.
No energy source remains on top forever – think of peat or firewood. The far-sighted natural gas trader will take care not to be caught about by any possible future disruption.