Coal Showing Signs of Turnaround: Solid Long-Term Choice

The coal industry has been severely impacted by stringent regulatory measures to control emissions in electric power generation. Despite the numerous hurdles in coal's way at present, this fuel source still holds an advantageous position thanks to its wide availability and lower cost compared to other fossil fuels and renewable sources of energy. Importantly, the new administration is committed to rolling back all of the regulatory and environmental hurdles in the industry's path.

Most of the energy pundits have ruled out coal as a fuel source and are quite skeptical about its future prospects. However, with the presence of President Trump at the helm of U.S. administration can prove to be a game changer for the coal industry and help in the revival of the fortunes of the coal industry through relaxation of emission rules.

During his election campaign, Trump had vowed to lower the regulatory pressure on domestic manufacturers and suggested increased investment in energy infrastructure. In sync with these promises, the new government is expected to favor utilities and not pursue the implementation of the carbon emission reduction targets set by the Clean Power Plan as aggressively as the previous administration.

Per a report from the World Coal Association, there is currently 861 billion tons of proven coal reserves worldwide, implying that there is enough coal to last nearly 112 years at current rates of production. In comparison with this, proven oil and gas reserves are predicted to last around 46 and 54 years, respectively, at current production levels.

The current availability of coal even outpaces the combined proven reserves of oil and gas. So the advantages of coal cannot be overlooked and it will definitely have bright long-term prospects for investors.

Trump's view of climate change being "a Chinese hoax" aimed to make U.S. manufacturing "non-competitive" will definitely keep fossil fuel-based electricity generation afloat longer than expected. Given the stance of Trump, we can expect new policies to help the coal industries survive and prosper from the current levels. The recent Supreme Court ruling temporarily halting implementation of the Clean Power Plan is helpful as well.

All of this combined is helping keep the coal industry afloat amid rising competition from other fuel sources and a hostile regulatory climate. Let's dig a little deeper into the factors helping drive this industry forward.

Coal Dominates U.S. Power Generation : Coal is still among the major sources of fuel for generation of electricity in U.S. Per the U.S. Energy Information Administration (EIA), total U.S. coal consumption will increase from 731.5 million short tons (MMst) in 2016 to 744.4 MMst in 2017 and 750.3 MMst in 2018.

The usage of coal in U.S. Electric Power sector will increase by nearly 2% to 691.2 MMst in 2017 and improve another 0.6% in 2018.

Apart from increase in consumption of coal in electricity production, EIA forecasts prices of coal to gradually increase for electric production. The price of coal per million Btu is anticipated to increase from $2.13 per million Btu in 2016 to $2.17 per million Btu in 2017 and increase further to $2.21 per million Btu in 2018.

Not Just Electricity Generation : Electricity generation is just one use of coal in the U.S. Manufacturing plants and industries use coal to make chemicals, cement, paper, ceramics and metal products, to name a few. Methanol and ethylene, which can be prepared from coal gas, are used to make products such as plastics, medicines, fertilizers and tar.

Certain industries consume large amounts of coal. For example, concrete and paper companies burn coal, and the steel industry uses coke and coal by-products to make steel for bridges, buildings and automobiles. Per EIA consumption of coal in other sectors is expected to drop marginally in 2017 from 2016 level by 0.4 MMst tons to 53.2 MMst tons. However, usage is expected to rebound in 2018 and move up to 55.3 MMst tons.

Supply Agreements for Coal and By-Products : Most of the coal companies in the business have existing long-term coal supply agreements with their customers. Further, coal producers are prompt about renewing contracts on expiry as these provide earnings visibility into the future.

Last month, Koppers Holdings ' (KOP) subsidiary Koppers has entered into a ten year coal tar supply agreement with leading steelmaker ArcelorMittal (MT). ArcelorMittal's US unit operates coke plants to transform coal into coke and in that process coal tar is produced as by-products. Koppers will utilize the coal tar in the production of creosote, an oil-based wood preservative.

Coal as Input for Steel Industry : Due to its heat-producing nature, hard coal (metallurgical or coking coal) forms a key ingredient in the production of steel. Nearly 70% of global steel production depends on coal. Since met coal is an essential ingredient for the production of steel, U.S. met coal producers are likely to benefit from the increase in steel consumption.

Although the steel industry is expected to remain under pressure for some time, it is certainly expected to grow on the back of flourishing automotive and construction industries. A recent report by The World Steel Association predicts global steel demand to increase 0.2% to 1,501 Mt in 2016 and another 0.5% to 1,510 Mt in 2017. This definitely is a ray of hope for metallurgical coal producers.

Demand Upsurge in Asian Countries : The increasing demand for coal in Asian economies like China and India has been a key price driver since the end of recession in 2009. We expect this trend to continue in the future primarily owing to rising energy needs in India, China and Southeast Asian countries.

Though Asian countries also produce coal, it does not suffice the growing demand in the region, resulting in a continuous need to import. The Southeast Asian countries have a surging demand for electricity chiefly due to their improving economy. Numerous coal based power plants are presently under construction and more are being planned to be constructed over the next few years. This will create ample export opportunities for the U.S. thermal coal producers.

MLP and Diversification : Coal-based MLPs might be a mitigating element for the ailing coal industry. One such instance is CONSOL Energy (CNX) creating CNX Coal Resources LP (CNXC), which currently carries a Zacks Rank #3 (Hold). Coal companies are also resorting to diversification and are on the lookout for other sources of revenue besides coal. CONSOL Energy for the past couple of years has been expanding its natural gas portfolio and lowering coal operation.

To Sum Up

Interestingly, among all other coal companies, Alliance Holdings GP, L.P. (AHGP) and Alliance Resource Partners, L.P. (ARLP), both sporting a Zacks Rank #1 (Strong Buy) seem to be operating on a different level. Both companies have surpassed earnings estimates in three out of the last four quarters. Their performance becomes particularly noteworthy when most of the big names in the space were fighting for survival in the same period. You can see the complete list of today's Zacks #1 Rank stocks here.

Large sections of the population in the developing nations of Asia and Africa have yet to access electricity. The lower cost of coal compared with other fuel sources and the stability coal-fired units provide to the grid's performance make it a preferred choice in the emerging countries.

The importance of coal in the fuel source chain is far from over. For the aggressively growing and energy-hungry Asian economies, coal seems to be the most popular source of power generation in spite of inroads being made by renewables.

Coal is by far the most stable source of energy. A majority of the coal consumed in U.S. is actually produced in America and at the same time coal industry provides jobs to thousands of Americans.

Even with closing down coal-fired units in the wake of stringent emission rules, coal production and consumption are set to increase in 2017 and 2018 in the U.S. This is testimony to the fact that coal will continue to be utilized in electricity generation for the foreseeable future despite the increasingly stringent emission control regulations. This surely makes it a good long-term investment for those interested in this space.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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