Why Are Coal Stocks Burning?

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The past two days have been quite a roller-coaster ride for the molten-hot coal sector, and we’re here to make some sense of the action for Foolish investors. Let’s dive right in.

As news of railway disruptions continued to emerge from the flood-ravaged Midwest, benchmark U.S. coals surged past $120 yesterday. So far, rail interruptions have mostly affected transportation of coal from the Powder River Basin of Wyoming and Montana on its journey eastward, but experts are watching the Illinois Basin and Appalachia for problems as the floodwaters push southward toward the Gulf.

As significant as these floods are, for coal they are but a temporary constraint piled atop a long-term global supply shortfall that analysts and industry insiders alike say will persist until at least 2010. In fact, part of the strength in shares of coal miners yesterday likely stemmed from a bullish note from Stifel Nicolaus, which issued price forecasts almost 50% above the consensus and raised targets for Peabody Energy (NYSE: BTU), Consol Energy (NYSE: CNX), and Massey Energy (NYSE: MEE).

Coal mining shares surged to new heights in early trading this morning, likely bolstered by the combined drivers of near-term disruptions and further confirmation of long-term tightness in the coal market. At this morning’s peaks, Patriot Coal (NYSE: PCX), the subject of my biggest blunder to date, achieved four-bagger status within 2008, while industry giant Arch Coal (NYSE: ACI) has more than doubled from its January low.

While I generally shy away from making definitive declarations about the causes of short-term trading action, it’s fairly safe to assume that the slide in coal shares that followed today’s open represents profit-taking by investors awash in profits from coal in recent months.

Although I support the notion of locking in gains during a spike event like the one we witnessed yesterday and this morning, I see no need for Fools to exit the space entirely at this time. It is crucial to distinguish between short-term oscillations and long-term trends, and with potentially a couple of years of a supply crunch remaining, the coal story clearly remains a long-term trend. For the unfortunate Fool who has waited on the sidelines during coal’s relentless ascent, today’s dip could be the final cautious entry point I can reasonably bless.

Further Foolishness:

• Massey has massive earnings potential.
• Coking coal burns hottest.
• A fellow Fool likes Yanzhou Coal.