Shorting Gas When You Don’t Have Gas.

Coming right back at you today with the first of many new blog posts. This one is one I actually made a long time ago, just never published. Keep in mind I made this post in early January but never published it. Enjoy.

Bullshit Disclaimer

I am going to start with a little disclaimer. Don’t trust anything I say. That’s right. I mean I lost a huge amount of money on one trade in February 2018 on the VIX. I make mistakes and am far from a perfect trader. So you shouldn’t believe anything I say. You also shouldn’t believe anything anyone else says. Always be skeptical. Tons of bullshit out there. I look back at things I wrote in the past, and now think some of it is bullshit. So you have to backtest and verify everything yourself. Trust no one.

Mentoring

I always hear that you should find a mentor if you are a new trader. I get asked if I will mentor people. I am not interested in mentoring. I truly do have a plan to be a successful trader. I am not trying to grow my social media presence or make money as a blogger or educator. I thought maybe that would be fun to try, so I blogged for a bit. I didn’t enjoy it. Constant beginner questions, constant emails asking me about my market opinion, what my “watch list” is, etc. I am not a “Trade Idea Piñata” With this post maybe I can help people think for themselves so they don’t have to try to beat trade ideas out of others.

I have had successes and failures, but all in all, I am progressing and gaining confidence. I have some very lofty goals. I think I might actually get to them. We shall see. But being a public trader is not going to part of the plan. It just gets in the way.

The thing is about mentoring and looking for mentors is if you are new you have no idea what is real and what is not. Me personally I really have not had much in the way of mentors. I have had a few people that I have found that had really good ideas that I have integrated into my trading. I have read over 50 books on trading, many on psychology, many on investing, etc. Mostly junk that no longer works. But I pick up little nuggets here and there. I still read trading books, blogs, watch tons of YouTube videos, listen to podcasts(Chat with Traders is one of the best), etc. I sometimes come across some really good stuff in the sea of junk. Even social media, which I mostly avoid, occasionally I find some interesting trader or some interesting ideas. I try to absorb everything I can, try to dump the nonsense. I can tell what is real and what is not now. So now I could actually go find a mentor, but now I don’t need one. I just recently started really learning order flow in the last few months. If I had a good mentor in the beginning perhaps I would have learned it earlier.

The Natty Gas Setup

Why do I trade multiple markets? Shouldn’t I focus on one? Well, one thing I have always gravitated towards as a trader is attempting to get in very early on a new trend. That is what I try to specialize in. The question I pose to you is how often does that really happen in a market? Major trend changes are not an everyday occurrence. If I just focused on a few markets I wouldn’t be able to trade that set up very often and would just be waiting around. Now obviously I trade more than just high time frame reversals. But one of my favorite trades is a high time frame reversal.

Looking at Nat Gas what were the characteristics that made it a very high probability short? Before reading further, attempt to answer this question yourself, using the COT, Long Term Chart, Sentiment, Seasonality, Fundamentals, the News events surrounding it, etc. I will answer all of these next.

Finding the Setups

First I will talk about how to find these setups. They are not hard to find at all. I personally subscribe to Sentimenttrader.com which has a phase table. This phase table basically lists all the markets in order of very high to very low sentiment. Look at very high and low sentiment, then remove the ones that are not the most liquid or do not have great trading vehicles. Orange Juice has flashed a lot of signals lately but is not the best trading instrument in the world.

Speaking of that, I just want to quickly say this about trading. Don’t get overly obsessed with which markets you trade. So many crypto people refuse to trade other markets. Other markets are manipulated or they are regulated, or the big one is they don’t have the same percent moves as crypto does. Those are the excuses given. Well, crypto is also manipulated and in many ways easier to manipulate. The order flow is spread out across tons of exchanges. The liquidity sucks on many exchanges. And the percentage move part is nonsense when a lot of free leverage is available in traditional markets. Regulation can be a good thing. Technically spoofing is illegal in Traditional Markets(still happens all the time). Big traders are required to show how they are positioned. The long term guys anyways. The short term guys, which are a majority of the volume, are not as long as they don’t hold on Tuesday's close. This positioning data is very useful, but few retail use it. They are still looking at the latest moving average crossover system. In terms of percentage moves, there are many markets that move a ton, and with the leverage available, gains are not an issue. Leverage can be dangerous, and most use it wrong. There are responsible ways to use it though.

So getting back to how to find these trades. COT and the https://sentimentrader.com/ Phase Table. The phase table is essentially like the a fear and greed index for all markets. It takes each market and uses the breadth, price momentum, social sentiment indicators, COT positioning, put/call ratios etc and then creates a sentiment score based on that. Then the markets are listed in order of low to high sentiment.

Another resource is https://freecotdata.com/dashboard/ This guy takes all of the COT positioning, adjust for open interest and puts the net positioning relative to how extreme it is in the last 5 years. He has done some interviews and has some unique ways of looking at the COT data. The guy's name is Adam Collins, and this is one of the better interviews with him: https://futuresradioshow.com/tag/movement-capital/

Between the two of these, I actually think the Freecotdata Dashboard is more useful for finding setups. It is a free resource, sentiment trader is not. Another couple ways to find these setups is https://www.youtube.com/user/COTBASE/videos They put out weekly videos, talking about extremes. Watch it weekly. Some good insights in there, worth watching it for a while I have picked up some nuance to using this data watching them. Another way is just social media. I avoid it most of the time, but occasionally I like to see what the crowd is thinking. Natty Gas was very talked-about at the time.

Extreme Sentiment and Positioning Found, now What?

You have to look at the total picture. You can’t just short because positioning is extreme. Once extreme positioning is found, often you see a market continue higher/lower and get even more overbought/oversold. Trends don’t just suddenly die once positions get extreme. You often see multiple blow off rallies/capitulation sell-offs before a reversal. And if positioning does not stay extreme after the first blow-off move, the trend can easily continue. You can’t just base trades on this idea alone.

I personally like to see the extreme positioning be put under some kind of pressure first. That can be a move against them or a long period of sideways. That can help but we need more.

One thing to consider with COT. I like to look at the Legacy COT, but I also look at the new style COT as well. In terms of just talking about the Legacy COT, Commercials and Non-Commercials. Commercials do not make money in the market. They are hedging the actual commodity that they are either selling or buying. They lose money in the market and are just using the market for its original intention, hedging. When they get to extreme positioning, that can be a reversal indicator. They know the market better than anyone else, so if they get to an extreme hedge position, that means a Natural Gas producer is very interested in “locking in” that price. They are very interested in selling or buying at that price level, as it is a very advantageous level for them to buy or sell at. Each market has different characteristics for the commercials versus non-commercial dynamics. Some markets you see Commercials mostly short, but when you see them get long, even slightly long, that can be a great signal. Vice versa. You tend to see them get steadily more long or short as a market trends, they are getting more net long as a market goes down, more net short as a market goes up. They lose money throughout the trend. This is very generalized, and fundamentals have a huge factor here. The RATE at which they change their positioning is quite important as well. I am not going to get into details on this, you can seek out resources to learn more about this, but the videos I linked above WILL teach you these things.

Non-comms are the trend followers, and in this group, you will see people that do make money speculating on the market. They are on the other side of the Commercials in the Futures markets for the most part. We are looking for these guys to get trapped. This is where our edge is. We are betting against big money here. Smart money is not always as smart as many let on, especially at the end of trends.

The newer style COT reports, I am not going to get into details on that. I am not a knowledge Pinata. There are plenty of resources to learn more about that report. It is the same data as the legacy report, but is “disaggregated” They further break down the comms and non-comms. They did this for several reasons, one is Swaps started to be such a massive part of Comms that it throws the data off. This is a more transparent view of the positioning. Learn it.

In my opinion, the way freecotdata.com aggregates this new report is the best way to look at it.

Tradingster.com is also a good place to see the disaggregated and old-style reports in raw form, without the OI adjustments that freecotdata.com has.

Chart

Despite the markets being highly algo driven, Human Fear and Greed still has discernible patterns in the long term charts. The Natty Gas chart has a personality. It is the “widowmaker”. https://seekingalpha.com/article/4222676-natural-gas-back-widowmaking

https://www.tradingview.com/x/46S9ps0B/

The chart shows that Natty loves to do these freaky moves like this. It does it a lot in the higher time frame charts. There have actually been many institutional traders blow up trading Natty. I will get into more details on that later, but anytime you can get in after an institutional blow-up, you can make a lot of money. Institutions have enough money to push markets way beyond normal value when they are forced to close.

Look at the volume. Extreme. If you popped an RSI/MFI on there would be a multi-year extreme. Multi-year high. Looks very similar to past blow-off tops.

Anytime you make a trade idea, always consider the alternatives. In just looking at the chart, we can see Natty has been a higher price before and has had bigger rallies. I will get into some reasons why you may have had reason to think we would not rally as far as we did in the past. One is the COT that I have already gone into.

Fundamentals

In my view, markets ultimately move toward fundamentals but can spend long time periods detached from the fundies. Sometimes they drastically overshoot fundies. The market often starts to move before fundies improve. Insider Info. So using fundies as a trader is difficult. The big boys have better access to this info than we do. But, the COT is a way to cheat at this. As I said, the Comms know the market the best…

Part of the reason Natty Gas started to move up recently, is there was a big shortage of Natty that was brought in during the “injection season” https://www.eia.gov/todayinenergy/detail.php?id=18211 April to October is injection season. A higher than normal weather forecast for the winter was also released by NOAA. So the producers decided to under inject, in theory, to keep prices above break even I would guess. Who knows. But as you can see on this chart, we had a massive undersupply(looking much better now, did COT forecast this…hmmm…yea it did): http://ir.eia.gov/ngs/ngs.html

Then…. We had a big cold snap in North America. Then...We had China talking about buying Natty. Then... Well, I’ll talk about this in the next section...

News

The news, kind of already talked about it. Undersupply, cold snap, China. Then… We had Institutions start to get “WidowMakered”. I am sure most have seen this: https://www.youtube.com/watch?v=VNYNMM0hXXY I felt like a complete moron when I lost a lot of my own money on one trade, but if it gives this guy some solace, he does make me feel a little better that I didn’t lose millions of other people’s money. He decided to first sell Deep Out of the Money Puts on Oil. Got hit hard. Then decided to revenge trade by loading up on selling Deep Out of the Money Calls, on what looked to him like an Overbought Natural Gas. Oops. Never, ever put your entire account into a naked short options position. I sometimes sell some premium in slower markets, but I always protect myself with long options or very small position size.

So we have a market that has been pushed much higher than value because of some institutional mistakes. We have tons of articles calling for double-digit Natty. Stocktwits and Twitter were irrationally exuberant, etc, etc., etc.

Sentiment

I already touched on Sentiment, but many resources out there for this. https://activetrader.cmegroup.com/Products/Energy?s=NGE Not necessarily the best signals here, and why you can’t rely just on sentiment. But on the day we actually had the top, we had a local high in sentiment and lot of sentiment spikes at extremes.

I read several posts on Stocktwits that were extremely bullish. The sentiment gauge there was very high: https://stocktwits.com/symbol/NG_F

Seasonality

This one is not as critical as the others, but worth mentioning and paying attention to. Sentimentrader.com has some good seasonality stuff, but there are some great resources out there for free. The freecotdata.com guy, Adam, has a great website. https://commodityseasonality.com/energies/

A lot of commodity seasonality makes a lot of sense, and is based on….seasons… I know shocking. Grains markets, prices tend to be lower at the harvest, higher months later. Natural Gas up in winter, down in summer.

In this case, very common to get the big bump in November, and some pretty substantial mean reversions in December. Another point in favor of a Natty short.

One further thing to add to seasonality, not related to this, but still valuable. When I market goes against seasonality, the move is often explosive. So recently the stock market did not get the typical “Santa Claus Rally”, instead it got Santa Claus Capitulation. These are the types of moves I often see when a market bucks seasonality.

Correlations

Correlations are not as critical to look at either, and they can change constantly. Some stay constant. The USD, in general, when it is strong it is bearish for commodities. The USD was pretty strong at the time, though it did top out recently(very extreme long positioning on the USD recently). Another point here for the short case.

Long Term Macro Picture

The long term picture on Natural Gas, and the reason price is much lower than it used to be(talking long term price not short term), is that Fracking has allowed producers to extract much more of the stuff than they used to be able to. There is a supply glut. Natural Gas producers in North Dakota have actually burned off Natty instead of injecting it, as that was cheaper than injecting it and causing an oversupply hurting the price. There is no shortage on Natty in the ground that can now be accessed, so if the price goes up they will re-supply. The price will change well before the resupply happens. The fundies still don’t look that great on Natty, but that is old data. An average retail person would be mind-boggled by the price going down with that kind of undersupply. Have to know the market.

The actual Trade

https://www.tradingview.com/x/DkKplzoD/

Once I decided this was a trade I wanted to take, and one that I wanted to take size on, this is how I executed the trade. Once I saw the big blow-off day with gigantic volume, I identified the range that was forming. I didn’t panic when the market plunged the next day and was fairly confident that it would retest the highs. I really wanted to see a stop hunt, as I see them so often after a market gets crazily overbought like this. That never came, but I did jump in and get short near the top of the range many times and get out when the support held. Got profit every time, but didn’t get the big win until I got the big break of support. I will not get into details of sizing, stops, etc. You guys can figure that out. But I often use anywhere from 5–10% of my account to get into a position trade on these. I get a decent price and just hold onto it and use a fairly liberal stop. Then I do take size on swing trades. I aggressively manage my risk, trailing stops and re-entering as needed. I was confident support would break, and was constantly repositioning myself for that move, taking advantage of the volatility while I waited.

As for which instruments to use, well there are several options. Futures are the pure play. I typically have used Leveraged ETFs for this is the past. The reason I did, was my account was too small to safely trade futures contracts without excess risk. These days my account is big enough to trade Futures. They are the superior way to play it if you can. As for how I found the ETFs, well I used to be in a trading chat room, stockbee.biz. They mostly used ETFs for trading commodities. You can simply Google this stuff. “Natural Gas Leveraged ETFs”, “Gold ETFs”. JNUG is a very popular Gold ETF amongst traders.

Beware of Decay on these ETFs. https://seekingalpha.com/article/1864191-what-you-need-to-know-about-the-decay-of-leveraged-etfs I find it is better to short the 3x bullish ETF if you want to play the short side. Then decay works in your favor. But if you can, use Futures instead. Less worry about decay. Backwardation/Contango can also affect these adversely. Before you trade Futures, you better know what these mean. They can actually have a bullish or bearish connotation in and of themselves and can add to the trade idea thesis.

Order Flow is the next evolution for me, to improve trade location and reduce the chances of getting stopped out.

After the Big trade is over.

Once the big trade is over, once the easy money is made, the edge is not as extreme. But…the market tends to continue to move in that trend for a decent amount of time, sometimes until an extreme is found on the other side. So you can continue to swing trade in the downwards direction, but swinging for the fences is no longer advised. But when you get many of the things lining up in these markets, you can swing big. I wouldn’t recommend swinging big on the first of these setups you see. And you have to get into the details of each market, learn about the Macro, the fundies, the news, etc. Once you do this once for each market, it is easier the next time.

Get Tools to Do the Job

If you are going to be a trader, you have to have the tools to do the job. Some things do cost a decent amount of money, but they are worth it. Sentimenttrader.com is not cheap, Order Flow platforms in Traditional Markets are not cheap. Gotta have some of this stuff.

Other Resources

Some other resources to learn from. Carley Garner has a good book on Commodities. https://www.amazon.com/gp/product/1942545525/ref=dbs_a_def_rwt_bibl_vppi_i1 I have found that there are not many female traders, but I think the ones that stick it out often excel. They have a psychology edge on us males. They don’t get overly egotistical. The amount of people I have seen over the years that are more interested in winning a dumb argument on Social Media, versus being a successful trader is mind-boggling. If someone wants to argue with you on social media, ignore them…. You can’t win an argument on the Internet. Instead, focus on getting better at trading. In trading, you will not always be right, but many of the social media “Pro Traders”, are ultra obsessed with always being right. It is possible to do when you can delete bad calls from your history.

There are several books on the COT specifically. https://www.amazon.com/Commitments-Traders-Bible-Insider-Intelligence/dp/0470178426

https://www.amazon.com/Trade-Stocks-Commodities-Insiders-Secrets/dp/0471741256/

https://www.amazon.com/Positioning-Analysis-Commodity-Markets-Fundamental/dp/9811163294/

I have read or planning to read all of these. Not 100% necessary at all, but I personally have run out of the mainstream books to read for the most part. I try to read around 5 trading books a year at least.

The Next Trade...

Inevitably, I will be asked what the next trade setup like this is. Well, I showed you how to find it. Go find it. But... Some other recent examples that I did trade, though they were not as good but still pretty good. Bonds and Gold. I got long these but did not hold them nearly as long as I should have. The dollar recently gave a great extreme signal, but I generally avoid currencies. I trade commodities based on dollar extremes though.

ALWAYS, try to disprove your trade thesis. ALWAYS look at the other side. If you can’t disprove your trade thesis, or the other side is just way weaker than you really might have something. But ALWAYS be aware of what can happen, which is ANYTHING………. Literally thousands of different possible outcomes. You just have to find the most probable outcomes. Then as price action develops you can determine which of these probable outcomes appears to be winning, and trade appropriately.

That should cover the basics. You always have to learn and evolve. It’s not easy at all. But hopefully, this helps. I learned the vast majority of what I know through books, blogs, YouTube. I actually didn’t ask a real human many questions. Only in special circumstances have I done that. But if you do find a legit trader that is willing to help you, that is super useful. Don’t abuse them, but do utilize them.

Shorting Gas When You Don’t Have Gas. was originally published in Hacker Noon on Medium, where people are continuing the conversation by highlighting and responding to this story.