Trading Natural Gas Futures Seems Very Risky, Why is That?

Natural gas futures prices have been extremely volatile in 2022 since the Russian invasion of Ukraine and the stories of heavy losses by traders and speculators begs the question why. There are several reasons why trading natural gas futures can be risky. One reason is that the price of natural gas is highly volatile and can fluctuate significantly in a short period of time. This makes it difficult to accurately predict the future price of natural gas, which can lead to significant losses for traders who are not able to correctly anticipate price movements.

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Natural gas is renowned for being one of the most crowded trades, meaning it is heavily biased in positioning one way and therefore very crowded to exit. Given that moves can be exaggerated if traders are all going the same way.

The most volatile futures contracts are those that are based on commodities, such as crude oil, natural gas, and metals. These contracts are highly volatile because the underlying commodities are affected by a variety of factors, such as supply and demand, political and economic events, weather, and speculation.

Another reason why trading natural gas futures can be risky is that the market for natural gas is relatively small and illiquid compared to other commodity markets such as oil or gold. This means that there may be large price discrepancies between different exchanges and brokers, which can make it difficult for traders to get a fair price for their trades.

According to the CME Group, the average daily volatility of the Natural Gas Futures contract is 8.38%, compared to 4.19% for WTI Crude Oil Futures and 3.65% for Gold Futures.

Natural gas is particularly volatile because the supply of natural gas is relatively low compared to other energy sources, and the demand for natural gas can be highly seasonal. Additionally, natural gas prices are affected by the cost of storage and transportation, as well as the availability of substitutes, such as coal and nuclear energy.

Natural gas is typically most volatile during the winter months, when demand for natural gas is highest due to colder temperatures. During this period, the supply of natural gas can become constrained due to higher demand, which can cause prices to spike. Additionally, the cost of transportation and storage of natural gas can increase during this time, further driving up the price. With the crowded nature of the natural gas trade any change in weather can be dramatic as we saw in December 2022 (see chart below)

In addition to these factors, trading natural gas futures also involves significant financial risk as traders must have a certain level of capital to enter into these contracts. As with any futures contract, there is the possibility of incurring significant losses if the market moves against the trader’s position.

Natural gas is often one of the most volatile futures contracts, if not the most.

Here are the last four weeks of 2022 for US futures contracts.

Week ending December 23, 2022
Week ending December 16, 2022
Week ending December 9, 2022
Week ending December 2, 2022

Overall, trading natural gas futures requires a high level of risk tolerance and a strong understanding of the market and the various factors that can impact the price of natural gas. It is important for traders to carefully assess the risks and potential rewards before entering into any futures trades.

Source: CME. TC

From The TradersCommunity Research Desk