Fighting gravity
DEEP DIVE: Hedge funds are making bullish bets in a fundamentally bearish EU gas market
Last week’s post on speculation in European gas markets triggered a surprising response from readers and on social media. Evidently it touched a nerve, so I’ve been doing more digging.
That article considered just one segment of participants trading in Dutch TTF gas futures: hedge funds. But they aren’t the only players in this market.
Under the EU’s MiFID II regulation, three distinct groupings of traders must report their weekly long and short TTF holdings. Hedge funds and other pools of speculative capital are categorised as ‘Investment Funds’ (IF). The other two are labelled and defined as follows:
Commercial undertakings (CU): A company with physical exposure to gas such as a producer (e.g. Shell, ExxonMobil) or utility (e.g. Uniper, EDF), which uses TTF futures for hedging purposes.
Investment Firms or Credit Institutions (CI): This is a catch-all pot for investment bankers (e.g. Goldman Sachs), brokerages (e.g. OTCex Group) and traditional banks (e.g. Barclays, HSBC). These entities are the ‘market makers’ who act as intermediaries between buyers and sellers to provide liquidity and create a two-sided market.
Unlike hedge funds, the CU and CI categories are more aptly described as ‘genuine’ market participants because their activities are not purely speculative. They either operate directly in physical markets, or they facilitate trade in actual molecules.
I went back to the ICE Commitment of Traders data to see how the net long/short position of each of these groupings shifted during the market turmoil of recent years.
What I discovered clarified in my mind what happened when the European gas market lurched from the Covid crash of 2020 into the pre-Ukraine bull run of 2021, the ensuing wartime insanity of 2022 and the great correction of late 2023/early 2024.
With front-month TTF hitting a peak of €36/MWh ($11.50/MMBtu) in early June, there is plenty of evidence to suggest that the ‘paper’ market in derivative futures has become dislocated from the supply/demand fundamentals that govern the physical gas market.
Delving into the relative positioning of ‘speculative’ and ‘genuine’ funds allowed me to formulate some ideas about how the dislocation might be reconciled in the coming months. This is what today’s post is all about: hedge funds pumping bullish capital into a fundamentally bearish market.
Let’s dive in.