Technical Analysis of Natural Gas in ZEMA
Technical analysis has always been a powerful tool for natural gas traders. Technical analysis, which helps forecast the direction of commodity prices through the study of historical price data, differs from fundamental analysis, which examines the influence of related economic and financial factors such as weather and gas inventories on prices. If fundamental analysis helps form traders’ initial expectations about possible price movements within certain periods, technical analysis helps them identify the right tim ing for their decisions. While ZEMA has a wide range of technical indicators, three of them are highly useful for natural gas traders: moving averages, MACDs, and RSIs.
It’s amazing how useful a simple moving average can be. Being a trend-following indicator, a moving average helps smooth historical prices and removes random fluctuations. There are two popular types: simple moving averages (SMAs) and exponential moving averages (EMAs). While SMAs are usually considered to be better at identifying support and resistance levels, EMAs are more sensitive to price fluctuations and are usually used for tracking a trend’s direction.
Both of these formulas are built in ZEMA and may be used to provide quite simple and clear visualizations of trends. The graph below depicts a fast 1-week EMA (orange line) and a slow 5-week EMA (green line), both of which were built using historical spot data about Henry Hub natural gas prices. The position of the fast line over the slow line at the beginning of the year clearly signals a “bullish” market trend, while the downtrend trend at the end of June is represented by the slow line crossing over the fast line, creating an ongoing widening.
Figure 1: Moving Average Analysis of Henry Hub Natural Gas Historical Prices (NYMEX), January 2014 – August 2014
One more useful technical indicator from the moving average family is a moving average convergence/divergence (MACD). MACDs are used for spotting changes in the direction, momentum, and duration of a price trend. MACDs are momentum oscillators created by subtracting a longer EMA from a shorter EMA (most common are a 26-day EMA and a 12-day EMA). ZEMA allows for the plotting of two lines: an actual MACD and a signal line, which is an exponential moving average of a MACD line (usually it is a 9-day EMA).
The logic behind MACD analysis is very similar to the logic behind EMA analysis: when a MACD line falls below a signal line, this is a downward signal, and, conversely, when a signal line crosses over a MACD line, the signal is bullish.
In the figure below, these two lines have been added to the previous example (the MACD line is grey and the signal line is red). Now the MACD indicator is more trend-sensitive and quickly predicts changes in slope. It managed to catch the reversal of the trend at the end of March and in the beginning of April faster and more accurately than EMA lines.
Figure 2: MACD Analysis of Henry Hub Natural Gas Historical Prices (NYMEX), January 2014 – August 2014
Relative strength index (RSI) is a momentum indicator and is one of the most used indicators in technical analysis. It oscillates between 0 and 100, measuring the relation between average gain and average loss based on the closing prices of a recent trading period. A typical value for the trading period is 14. The main purpose of this indicator is to determine overbought and oversold conditions of an asset. In this case, natural gas will be deemed to be overbought (overvalued) if the RSI surpasses level 70 or oversold if the RSI falls below level 30.
ZEMA offers formulas for both RSI and standard RSI. Standard RSI is calculated on a cumulative basis; this formula smoothes the line, allowing for the avoidance of false signals. As shown in Figure 3, there are no clear “overbought” or “oversold” positions indicated by the standard RSI (black line), except for the one in the middle of July, which signals that the natural gas price has reached its lowest point and is about to recover. As large spikes and drops in the price can create false signals, RSI is rarely used alone. It works best as a complementary trigger in a moving average analysis.
Figure 3: RSI Analysis of Henry Hub Natural Gas Historical Prices (NYMEX), January 2014 – August 2014
Even though the analysis of natural gas is a complicated process that requires traders to have detailed market knowledge, ZEMA undoubtedly simplifies this task technically. To learn more about ZEMA, book a complimentary demo.