Natural gas has had a choppy year. Prices have recently slid, but are fast approaching ascending trend limits. Absent new macro bearish headlines, natural gas prices should bounce to continue trading the channels.
Natural gas is at an important technical long-term level. In the past five years, it has had extreme highs and lows.
In my experience, those are overshoot situations. Now it’s at a level that had served as support once. The opportunity is to do it again soon.
There are other variables at play on a fundamental basis, like the U.S. Dollar, but markets often like to repeat performances. Rampant headline trading makes it difficult to trade fundamentals, so experts in this field have been rendered at par with the average investor. Meaning, I have just as good a chance at calling a bounce level as the best natural gas experts.
There are two exchange-traded notes that allow me to trade natural gas in a triple-leveraged way. Usually I like trading options. In this case, these two have no available options, so I have to trade them directly.
First is VelocityShares 3X Long Natural Gas ETN (NYSEARCA:UGAZ): Its recent price action has mirrored that of natural gas itself.
Click to Enlarge The chart shows the ascending trend line that I am counting on holding as a bounce level.
Second is VelocityShares 3X Inverse Natural Gas ETN (NYSEARCA:DGAZ): Buying DGAZ would be bearish natural gas prices.
The Trade: Buy UGAZ at $39.60 per share. This is a three-times-leveraged investment vehicle, so I would need a strong appetite for risk. Even if my thesis is correct, I don’t believe that this is the absolute bottom. I see a little more downside possible.
An important part of the thesis is the U.S. dollar. Earlier this month, we noted a potential breakout in the USD. It has since lived up to the expectations. The USD futures chart shows the breakout point. It also suggests that the technical breakout may still be ongoing, which means more upside is still possible especially with the Federal Reserve in a tightening cycle.
Click to Enlarge When the U.S. dollar is strong it puts downside pressure on commodities. Natural gas prices also suffer from a strong dollar, so the incremental upside in the dollar breakout may translate into a lower low in UGAZ.
If my ascending trend line fails to serve as bounce level, then I would need to exit around $35 per share. This would represent a clear failure of the thesis, thereby rendering my trade broken.
The Alternate Twist Trade: Instead of risking out-of-pocket money, I can go long natural gas by selling risk in United States Natural Gas Fund, LP (NYSEARCA:UNG).
Sell the UNG Jan $7/$6 credit put spread. This is a bullish trade for which I collect 15 cents per contract. If successful, this trade would yield 17% on money risked. I need UNG to stay above $7 per share through expiration. I am not obliged to hold the trade open through expiration. I can close it at any time for partial gains or losses.
Someone who really wants to be bullish natural gas can do both trades. The credit put spread would then offset the entry cost for the purchase of the UGAZ shares. But this would require strong conviction in the UGAZ price floor at this level. I can start with the first trade. Then if price slides further I can add the credit put spread trade on a clearer floor.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic and stocktwits at @racernic.
