At their most generous, Las Vegas oddsmakers put the chances of Donald Trump winning the U.S. presidency at 25 to one. In other words, a long shot and one that likely mirrored any potential rebound by the country’s thermal coal miner stocks.
Coal mining companies have faced a constant “onslaught” of new regulations in the months and years leading up to the most recent U.S. election, said Cloud Peak Energy Inc. chief financial officer Heath Hill, including Barack Obama’s Clean Power Plan, which was designed to encourage cleaner burning natural gas and renewable power at the expense of coal-fired electricity.
“It was effectively a ‘keep coal in the ground’ campaign, where the NGOs were really well supported by the administration’s coordinated regulation and implemented rules in a way that were very disadvantageous to the coal industry,” Hill said.
But as we all know, Trump did overcome the odds and the effect on coal stocks became quickly apparent. Despite a recent pullback, Cloud Peak shares have risen 112 per cent in the past 12 months and the company is one of several thermal coal miners to post massive stock price rebounds.
TSX Venture-listed Corsa Coal Corp.’s share price rocketed 120 per cent over the same period. Similarly, Westmoreland Coal Co. is up 91 per cent and CNX Coal Resources has gained 122 per cent.
The thermal coal rebound following years of low coal prices, increasingly stringent regulations and big-name bankruptcies has been dramatic, but analysts don’t believe it will last. They warn the industry is likely to continue losing market share to natural gas and renewable energy sources in the long term even with Trump in the White House.
The biggest factor driving coal out of the power market is the cost competitiveness of natural gas, not new regulations, said Jone-Lin Wang, vice-president of power and renewables at researcher IHS Markit.
“You’re going to have a near-term tug of war (between coal and gas for market share), but, generally speaking, coal is in decline and that, even for Trump, is hard to reverse,” she said.
U.S. Energy Information Administration (EIA) data show that electricity production from natural-gas-fired power plants surpassed coal-fired generation in the U.S. for the first time in late 2015.
Nevertheless, coal miners believe things are changing and big investment players are buying their story. For example, Toronto-based Connor, Clark & Lunn Financial Group Ltd. recently doubled its investment in Cloud Peak, to 1.8 million shares, and boosted its holdings in Westmoreland by 175,888 shares to bring the firm’s position up to 251,991 shares, according to Bloomberg data.
Hill said Cloud Peak, which operates three mines in a coal-bearing formation underlying Wyoming and Montana, can compete directly with natural gas in the power market when gas prices range between $2.50 and $3 per gigajoule. He also said the coal business has fundamentally changed to supply power plants on shorter-term contracts.
“We need to have the cost structure so we slow the mine down when the demand isn’t there and ramp it up when it is, so it’s not a five-year, stable sellout of the coal business that it used to be; it’s much shorter term and more nimble,” he said.
The EIA’s most recent forecast projects coal-fired power will claw back some its market share from natural gas even beyond 2020, and potentially as late as 2030, given that Obama’s Clean Power Plan was blocked Feb. 9.
But Wang said IHS Markit expects coal fired-power production to drop as early as 2018, “because we are likely to see continual retirements of coal plants.”
The problem for thermal coal miners is that their domestic market is disappearing. For years, coal-fired power accounted for 50 per cent of the total electricity output in the U.S., but it has since fallen to 30 per cent.
“We expect coal’s share to further decline to below 30 per cent in 2020 and barely over 20 per cent in 2030,” Wang said.
Coal-fired power plants across the U.S. have been retiring and new plants have not been built to replace the lost coal-fired generation capacity.
“Since Trump’s election, we have seen coal retirement announcements actually accelerate rather than slow down,” said Wade Schauer, Wood Mackenzie research director of power and renewables, in an email. “This trend is being driven by state policies and utilities looking beyond the next four to eight years.”
A shrinking market in North America will force companies such as Cloud Peak to increasingly look toward export markets. Hill said Cloud Peak already has customers in South Korea, but is also eyeing growing markets in Japan and China.
Looking beyond Trump’s initial four-year term in office, Hill said that investments in carbon capture and storage technology can help his industry be cleaner and stay competitive. The company is asking the new administration to consider a subsidy for carbon-capture technology in the same way the U.S. government currently subsidizes renewable power projects.
Hill said he’s hopeful that new technology can lead to either retrofits of existing coal-fired power plants or, potentially, the construction of more efficient plants.
But Wang said it’s unlikely new coal plants will be able to compete with gas unless capital costs sharply decline.
“When it comes to dispatch, day in, day out, who gets to run based on short-run dispatch costs, then it’s a tug of war between coal and gas based on current prices,” she said. “When it comes to new builds, gas wins. Period.”
The capital cost of a new gas-fired power plant is roughly US$1,400 per kilowatt of installed capacity, compared to US$3,500 per KW for coal-fired generation capacity.
“They’re not close,” Wang said, adding that gas plants can also be built faster than coal-fired power plants.
Wang expects natural gas prices to average between US$2.50 per GJ to US$3 per GJ between now and 2020 before increasing thereafter as coal-fired power plants are decommissioned and gas power emerges as the largest source of electricity in the U.S.
“Having the coal plants there does put a bit of a constraint on the gas price,” Wood Mackenzie’s principal natural gas analyst Gabe Harris said. The retirement of coal plants, he said, could lead to a “longer, more intense” increase for natural gas prices.
“I think that’s one of the dangers that people are seeing in retiring coal plants: there’s going to be a spike,” he said.
In the near term, however, the outlook for natural gas has recently deteriorated in North America. After a strong start to the critical winter heating season, NYMEX gas prices have tumbled from more than US$3.60 per GJ in January to US$2.82 this week as a result of warm weather in important markets such as Chicago and the U.S. northeast.
“It’s been the warmest winter in my 20-year database,” Harris said. “Between October and now, I estimate we’ve lost 4 [billion cubic feet] per day of gas demand.”
The winter heating season has been weak, but GMP FirstEnergy analyst Martin King said in a March 6 research note that gas prices may have bottomed and he expects a “choppy” recovery over the course the year.
“At this stage, we do not rule out a US$3-plus per mmBtu handle in the near term, even with warmer than average weather,” he said.
Some natural gas producers, including Calgary-based Painted Pony Petroleum Ltd., have scaled back spending plans as a result of the weaker gas outlook this year.
Such news gives thermal coal mining executives some reason to be bullish on their industry. In its fourth-quarter update, CNX Coal cited EIA forecasts that show coal-fired power plants will burn 41 million more tonnes of coal in 2017 than they burned in 2016.
“We believe this stronger coal burn and continued destocking should sustain improvements in coal supply-demand fundamentals for the upcoming periods,” the company said.
Hill said the Powder River Basin, where Cloud Peak operates, once produced 400 million tonnes of coal per year, but it produced just 320 million tonnes last year.
“We think there’s a case for it to produce between 325 million to 350 million tonnes, but not go back up to historical highs,” he said.
Hill said Cloud Peak’s goal is to be the lowest-cost coal supplier in North America, and maintain its own market share with utility companies even as natural gas and renewables create wider competition among power producers.
“This is a very competitive fuel source that utilities have an economic decision to burn,” he said.