Why natural gas prices spiked amid 'a very technical event'

CIBC Private Wealth Senior Energy Trader Rebecca Babin joins Yahoo Finance Live to discuss why natural gas prices have spiked by a record 70% on Thursday.

Video transcript

ADAM SHAPIRO: So we have been watching that gas prices spike. All kinds of reasons-- there's the cold weather. It's expected to linger. There is the crisis with Ukraine and Russia and concern over the impact that would have should Russia actually follow through in February and invade Ukraine.

Let's talk about this with Rebecca Babin. She is CIBC Private Wealth senior energy trader. We appreciate your being here. And help us understand-- I mean, there's the investor issue about what could happen next, but there's just the rest of us even if we're not invested in that gas, we get kind of excited and not in a good way when we see those prices spike and for the reasons I've just mentioned.

REBECCA BABIN: Yeah, so they call the winter expiry and that gas the widowmaker. And that's because it's frequently subject to these types of volatility and spikes. And I'll bring you back to the Amaranth hedge fund that blew up in 2011, I believe, when that gas had another huge spike on a winter expiry contract.

Yesterday was expiry for Henry Hub natural gas, and we saw that outsized crazy move on the expiration. We have seen some follow through today. But it was a very technical event yesterday that occurred. And it effectively means that the contract is expiring and someone is short and hasn't gone ahead and covered their short into an expiration and needs to go out and do so, causing a hugely volatile move into the expiration close.

Now that isn't to say the other factors that you've described-- and those are weather-related-- the factor that is affecting Texas right now, as we have lower nat gas production due to what we call freeze-offs, which means the weather is very cold there, and it's harder for nat gas producers to produce the amount of nat gas they usually do.

And we have the impact of what's going on in Ukraine and Russia, which is essentially putting a premium into almost every commodity that you can track, whether that's nat gas, crude oil, wheat, a huge range of commodities just as Russia is a huge exporter of a lot of commodities. And it's kind of putting an underlying bit into the commodity complex in general. So say, those are the factors. It's crazy even for people who trade it every day to see those types of moves. And it is very much in at least that example very technical.

EMILY MCCORMICK: Given this was, as you said, a technical move in natural gas futures yesterday, what do the fundamentals suggest about where nat gas should actually be trading, if not where it's at right now?

REBECCA BABIN: So that's such a great question. And I think the challenge in pinpointing that right now is a lot of what's pricing into gas markets is untethered to fundamentals. It's coming down to this geopolitical risk. And I would say, Henry Hub, based on what we're seeing in storage and inventory and production, I'd say it is trading with a decent 5%, 10% premium of geopolitical risk baked in. But that's not outside the scope of what's being baked into other commodities in this situation.

So certainly, if we just go back to fundamentals in nat gas and we take this geopolitical risk off the table, things will likely come in and be lower. Is it 5%, 10%? Is it maybe 15%? If we get a warmer weather bout in there, it could very-- it could happen. But right now, that's not on the-- we're not on that trajectory. We're seeing actually geopolitical risk kind of escalating, as opposed to backing off. And we're seeing a little bit of a weather-- a cold weather pattern moving through. So those aren't on the table at the moment, but that isn't to say in the next two, three, four weeks, we don't see-- we see a pullback of that nature.

ADAM SHAPIRO: But Rebecca, a lot of us look at natural gas, by the way, as a cleaner energy solution to other fossil fuels. And yet, cities like New York have passed regulations that all new construction can't use nat gas. It's going to all be electric. Are we going to see this continue in other major areas? And when would-- I realize it won't happen in a year or two, but when might we see an impact on demand for gas? Is it really going to be negligible?

REBECCA BABIN: That's another really good question. And that regulation is definitely a concern, I think, across everyone who consumes nat gas on a pretty consistent basis because we just really don't have a replacement for that that's consistent. And when we don't have that regular availability of replacement cleaner energies, we get more volatility. So I would say the timeline for when we see those types of things expand into kind of the rest of the country, it will be longer-- it'll be a longer time horizon.

And it's going to, I think, accelerate not at the point of when politicians want it to, but when the market is ready to supply the consistent, reliable, clean energy. So it's not necessarily this political will that will compress the timeline. It's going to be how quickly that renewable infrastructure is put in place. So hard to pin that down, but I'd say that's definitely in the three to five-year timeline on a good day and maybe longer if things don't go as planned.

So that's how I look at that. And you're right, it is a fossil fuel. But it is a cleaner form of a fossil fuel. And it's important as we consider that transition. And I think that most people are coming around to that view that we can't just make this leap from fossils to clean. We do need something in the middle.

EMILY MCCORMICK: I want to ask you about crude oil prices really quickly as well because crude oil just closed out a sixth straight weekly gain this week. Is $100 a barrel a matter of when and not if anymore? And what's going to be the catalyst for that?

REBECCA BABIN: Yeah, so that's the consensus view, is that $100 is when, not if. And I actually don't think that's so much of a sure thing. There's two things that I've got my eye on that I think are potential headwinds to that. The first is there are off-ramps that Russia, Ukraine, and the US and the negotiations can kind of come together very quickly if neither party really wants to escalate the tensions. And I think there is $3 to $5 of geopolitical premium built into crude, so you could see that kind of take things down and kind of slow down their trajectory to $100 a barrel.

And I also think when I look at consumer confidence, this is a little bit of a red flag for me today if we see inflation is starting to, I think, have an impact on the consumer's willingness to spend any price on energy. It's a bigger part of their disposable income. And I just-- I do think as we progress through no longer having such easy money and not stimulus checks, we might see the consumer back off a little bit. So I don't think it's a when or if-- it might occur. But I don't think it's a sure thing, is the way I'd phrase that.

And what does get it there, which was actually your question, which I promise I'll answer, is going to be two things. We're going to have the escalation in Russia. And we're going to have very, very extreme sanctions, which will be very detrimental to both us and Europe. And we will continue to see OPEC+ not help out in the face of rising costs and maintain extreme discipline. And I think that's what gets us to 100. I don't think that's my base case, but it certainly could happen.