Contrarians Should Take a Long Look at Cheniere Energy (LNG)

As the old adage states, the market can stay irrational longer than you can stay solvent. In other words, betting against seemingly nonsensical dynamics in the equities sector might end up leading to sharp losses. Ultimately, no one individual is the arbiter of where valuations move in the future. Nevertheless, contrarian investors will want to take a closer look at Cheniere Energy (LNG) this week.

To quickly recap, Cheniere Energy is a specialist in liquefied natural gas or LNG; hence, the ticker symbol. Per its website, Cheniere is the leading LNG producer in the U.S. and ranks second in the world in terms of the size of its LNG operations. Further, the company commands deliveries to 37 countries and regions and features nine operating trains (the term referring to various components to process, purify, and convert natural gas to LNG).

Per the Associated Press, “U.S. Department of Energy has given a liquefied natural gas exporter operating in Louisiana and Texas permission for additional sales to every country entirely in Europe as they seek to move away from Russian oil and gas.” Naturally, Russia’s military aggressions in Ukraine represent one of the most powerful (albeit somewhat cynical) catalysts for LNG stock.

However, the market hasn’t been particularly kind to Cheniere in recent sessions. Over the past week, LNG stock is down 2%, reflecting broader declines in the spot price of natural gas. Still, investors will want to take a closer look at LNG’s contrarian trade.

Bulls in the Derivatives Market Favor LNG Stock

Despite softness with LNG stock in the equities arena, its derivatives sector – as in the options market – demonstrates a potential pivot toward optimism. When the closing bell rang out for the Friday, July 15 session, Cheniere was the recipient of unusual options activity with bullish implications.

Traders piled into the $145 call options with an expiration date of Aug. 19, 2022. On Friday, LNG stock closed at $124.17, meaning that shares will need to rise about 17% for these calls to be in the money. Notably, the volume was 7,522 contracts against an open interest reading of 190.

Interestingly, though, market makers apparently don’t have much confidence placing this trade, which opens up potential opportunities for bullish contrarians. The bid-ask spread for the aforementioned calls as represented by the midpoint price (85 cents) was 11.8%, which is rather high. Usually, single-digit spreads signify greater confidence and also liquidity (as more bulls and bears want to participate in the trade).

Fundamentally, it’s easy to see why market makers are iffy on out-of-the-money call options on LNG stock. On one hand, the spot price of natural gas is down significantly from its early June highs, leading to softness among gas-related energy stocks. On the other hand, the volatility of Russia’s war against Ukraine implies that natural gas can go anywhere, creating great uncertainties.

Therefore, market makers have apparently decided to protect themselves with a wider spread. Nevertheless, this could also be a signal that a bullish resurgence is coming.

Look at the Outside Fundamentals

One of the main reasons why natural gas prices slipped was an announcement from the U.S. Energy Information Administration, which declared a few weeks ago that inventory for the critical commodity for the week ending June 24 increased by 82 billion cubic feet. While that bodes poorly for LNG stock and its ilk in the near term, the crisis in Ukraine weighs heavily in the longer term.

Indeed, French President Emmanuel Macron probably gave the most honest assessment about natural gas prices, warning that his country’s people should “prepare for a total cutoff of Russian natural gas by supporting alternatives, having public lights switched off at night and engaging in a period of nationwide energy ‘sobriety,’” according to the AP.

Per Macron, “Russia is using energy, like it is using food, as a weapon of war.” Likely, the Kremlin will not view such rhetoric lightly, implying that circumstances for natural gas supplies will only worsen. It presents a rough picture for Europe as a whole, although LNG stock stands to be a beneficiary as the rest of the rational world look to the U.S. and other democratic nations to feed critical demand.

A Long Winter Ahead

With the fighting in eastern Europe likely to continue throughout the rest of the year and perhaps well into 2023 and beyond, policymakers near the region must eventually come to grips with the fact that winter is steadily approaching. Therefore, whatever respite the energy market is providing now probably won’t last too long.

If you apply logical thinking, LNG stock seems to be a no-brainer bullish opportunity. This doesn’t mean you should not conduct your own due diligence: all investments carry risk and Cheniere is no different. Nevertheless, the lack of confidence in LNG might be an intriguing prospect for those thinking ahead.

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