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NEW YORK (Reuters) - U.S. natural gas futures ended higher on Thursday for a third straight day, with the front-month contract posting a 2012 high on follow-through technical buying and cooler weather forecasts for next month that should stir more heating demand.
Chart traders said follow-through technical buying after recent gains fueled some of the upside, which came despite a slightly bearish weekly inventory report.
But some noted the three-day run up drove the market into overbought territory, with the 14-day relative strength index climbing to about 78 percent, its highest in nearly three months. That could signal a pullback soon.
The U.S. Energy Information Administration reported that total domestic gas inventories rose last week by 80 billion cubic feet to 3.576 trillion cubic feet. It was the biggest weekly injection so far this year.
Most traders viewed the build as slightly bearish, noting it was above the Reuters poll estimate of 76 bcf and above the five-year average increase for that week of 76 bcf, only the second time above the seasonal norm in 22 weeks.
"The number (EIA build) was actually higher than anticipated and they tried to pare gains but we're up. Part of it may be traders focusing ahead to winter, but there's no change in fundamentals," said BNP Paribas analyst Teri Viswanath.
"There's no space heating demand. It looks like we've got a rally based on hope," she added.
Front-month gas futures on the New York Mercantile Exchange ended up 8.2 cents, or 2.6 percent, at $3.297 per million British thermal units after climbing late to a new 2012 high of $3.318.
The front month is up 16.2 percent in the last three sessions. It would be the biggest three-day gain in four months, but much of the increase came from the near 20-cent carry when November took over the front position after October's expiration on Wednesday.
Extended forecasts do show cooler weather slipping into the Midwest and possibly the East in early or mid October.
But with storage and production still running at or near record highs, many traders expect further price gains to prove difficult until much cooler weather stirs more heating demand.
While nuclear plant outages, running above a year ago, have boosted gas demand from electric utilities, traders noted milder autumn temperatures have slowed power loads and limited the impact. Gas units are usually used to replace lost generation.
Despite recent gains, competition from low-priced coal may turn out to be the biggest problem for would-be price bulls.
Some traders noted that if gas prices push much further above the $3 mark, gas would become less competitive with coal in the power generation market.
Central Appalachian or eastern coal recently traded at a 2-1/2-year low at the gas price equivalent of just above $2.
Concerns are growing that some utilities that have been burning cheaper gas to generate power could switch back to coal. Loss of that demand, which helped prop up gas prices all summer, could force more gas into a well-supplied market.
Most analysts agree gas prices need to stay well below $3 this autumn to underpin switching demand.
The weekly build cut the surplus relative to last year by 24 bcf to 296 bcf, or 9 percent above the same week in 2011. But it increased the excess versus the five-year average, raising that surplus by 4 bcf to 282 bcf, or 9 percent.
(Storage graphic: link.reuters.com/mup44s )
While record heat this summer trimmed a huge storage surplus to last year by 67 percent from its late-March high, weekly storage builds have picked up sharply as weather loads faded.
Early injection estimates for next week's EIA report range from 50 bcf to 81 bcf versus a year-earlier build of 101 bcf and the five-year average increase for the week of 78 bcf.
Total domestic gas inventories are still at record highs for this time of year and likely to end the stock building season above last year's all-time high of 3.852 trillion cubic feet.
At 84 percent full, storage is hovering at a level not normally reached until the third week of October and still offers a huge cushion that can help offset any weather-related spikes in demand or supply disruptions from storms.
Traders were waiting for the next Baker Hughes drilling rig report on Friday. Drilling for natural gas has been in a nearly steady decline for the last 11 months, with the gas-directed rig count recently posting a 13-year low.
(Rig graphic: r.reuters.com/dyb62s )
But so far, production shows few, if any, signs of slowing.
While dry gas drilling has become largely uneconomical at current prices, gas produced from more profitable shale oil and shale gas liquids wells has kept output stubbornly high.
EIA will release gross natural gas production data for July on Friday. The agency expects marketed gas production in 2012 to hit a record for a second straight year, climbing 4 percent from 2011 levels to 68.86 bcf per day.
Additional reporting by Eileen Houlihan; Editing by Tim Dobbyn and James Dalgleish