Natural gas prices went on a tear in the second half of 2012 and the first quarter of 2013. But since then, they’ve fallen by more than 17%, while the price of competitive fuels like oil and coal have either increased or broken even.

That was expected.

Our industry sources are looking for natural gas prices to range between $4 per thousand cubic feet (mcf) and $6 per mcf over the next three years. But before they get there, they’re going to retest the $3 level – a 50% retracement.

[ad#Google Adsense 336×280-IA]There are two reasons why…

Bracing for a Bounce

The first reason is fundamental.

It’s simple supply and demand.

There’s still excess supply in North America and demand is influenced by multiple factors, including weather and inventory build.

Well, the weather has been cooperative, which is to say temperatures have been moderate, keeping energy demand low.

And as a result, inventory is at higher-than-expected levels. Too much inventory means lower prices today and likely lower prices until October when speculation about the winter heating season begins.

The second reason is technical. Technicians who trade natural gas futures for a living are always looking for points of retracement in stocks, as well as other commodities. Over time, stocks and commodities are famous for trading up sharply, only to fall back to certain points of support.

For natural gas, that support line is around $3. It really is that simple at times. And natural gas looks poised to tap that $3 level before it resumes its move upward in earnest.

That leaves plenty of opportunity in the market, if you’re prepared.

The most obvious play is to get long natural gas futures as soon as the price is close to $3. But there are also some good stocks you can buy.

Your Two Best Bets

Two of our favorite plays in the sector are Chesapeake Energy (CHK), which just set another 52-week high after reporting solid earnings, and Basic Energy Services (BAS), which has retraced after a 50% move higher recently.

While CHK is a natural gas play, it isn’t a pure-play.

Let me explain. CHK is heavily reliant on natural gas, but the profit it’s generating right now is coming from its liquids plays. That includes oil, which has been trading near its 52-week high. So CHK is following the oil price more so than natural gas.

However, CHK will pull back as natural gas prices fall. It’s currently trading at about $25 per share. A great entry point would be under $22.

It’s a different story for Basic Energy.

Basic Energy is much more dependent on natural gas prices for its future profits. As a services provider, Basic Energy is involved in every aspect of the drilling and production process. When prices move and stay high, more rigs and more services are required. But when prices are low, producers still produce, but few new rigs are put into production, service is often deferred, and the competition is more likely to bid competitively for the business that’s available.

This means margin pressures and lower profits. The silver lining for Basic Energy is that despite reporting mediocre earnings, the company is beginning to see demand pick up, albeit slowly. A good entry point for Basic Energy is below $11. It’s currently trading at about $12.35.

And “the chase” continues,

Karim Rahemtulla


Source: Oil & Energy Daily