Natural Gas Futures: A Growing Energy Market
The importance of natural gas futures can be appreciated when we consider that this commodity contributes about a quarter of total energy consumption in the United States.
As with the other main energy complex commodities, natural gas futures contracts are traded on NYMEX and this particular contract is widely considered as a benchmark signal for pricing this commodity in the global context.
This futures contract has a trade unit of 10,000 m British thermal units (mmBtu).
If you use the CME Globex trading platform you can deal in natural gas futures for physical delivery or those that are financially settled.
In both cases contracts are listed for 72 months.
If you look at the quoted prices for natural gas delivery you can tell whether it is a seller’s or a buyer’s market.
For example, if May 2018 natural gas financial contract is quoted at 10.96, July 2018 at 11.24, and October 2018 at 11.39, then the market is said to be in contango.
In other words, an upward sloping curve indicates greater demand in the longer-term contract compared to the near term.
So in this example, there is not a near term shortage relative to autumn of 2018.
The opposite situation, when a near term surge in demand causes shorter life futures contracts to be priced higher than those further out is called backwardation.
So how is the price of natural gas measured for the purposes of trading on the commodity exchanges and managing supply risk?
Price is a measure of the delivery cost at the hub of a major United States national gas pipeline network in Louisiana, called the Henry Hub.
It is here that sixteen pipelines are effectively interconnected so acting as a significant strategic focal point for US natural gas distribution.
This pipeline system delivers natural gas to markets along the US Gulf Coast, East Coast, and to the Canadian border, including the Midwest.
As with the crude oil market, a series of special contracts has been created to manage the relatively volatile price in natural gas markets.
You will find swap futures contracts which provide the opportunity to manage the price difference between Henry Hub and other key US and Canadian natural gas locations.
These swap basis futures contracts trade on the NYMEX Clear Port trading platform and each trade unit is worth 2,500 mmBtu.
They are different to the outright futures contracts in that they are a way of managing risk by trading the price difference.
There is also a NYMEX miNY natural gas futures contract, traded on the CME Comex trading platform, which has a trade unit value of 2,500 mmBtu, and is offered for those looking to add these futures to an investment portfolio.
As natural gas is the cleanest of fossil fuels, we can expect to see its share of energy markets increasing over time, given the growing concern over the global carbon footprint.
We can see that the US gas market is becoming increasingly dependent on liquified natural gas (LNG) imports to bridge the demand – supply gap in the market.
The Lake Charles LNG facility in Louisiana has seen significant expansion in recent years to meet this growing demand.
This facility links into 15 major interstate and intra-state natural gas pipelines throughout the Trunkline Gas pipeline system.
With the growing influence of LNG in the North American market, indeed across all global markets, the role of natural gas futures contracts will become far more prominent going forward.