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A Comeback for King Coal?

Arjun Sreekumar
March 31, 2013

Natural gas prices have enjoyed a phenomenal run so far this year. After suffering from severely depressed prices over the past year and a half, natural gas has surged more than 20% this quarter, as chilly temperatures have lingered for longer than expected.

For the week ended March 22, natural gas rose by as much as 1.3% after a report by the U.S. Energy Information Administration showed that inventories fell by 95 billion cubic to 1.781 trillion cubic feet.  

Natural gas producers are obviously rejoicing. But rising gas prices are also a boon to coal companies, because coal is one of natural gas' biggest competitors for U.S. electricity generation.

Does the natural gas rally signal a resurgence for King Coal? Or are coal's best days behind it?

A rough year for coal
Over the past year and a half, an unmistakable trend among utility companies was the switch away from coal and toward natural gas as a fuel source for powering their plants. For instance, in the first quarter of last year, when gas prices were less than $3 per Mcf, several utility companies announced plans to curtail or retire coal-fired plants in favor of natural gas-powered facilities.

For instance, AEP (NYSE: AEP), one of the largest utilities in the country, announced that it would eliminate roughly 5,000 megawatts of coal-powered capacity by retiring five of its 25 coal plants and shutting down coal-fired units at some of its other plants. Early last year, the company said it expected coal to generate just half of its total power by 2020, compared with 67% in 2011.  

Other utilities followed suit. Southern (NYSE: SO) recently revealed that it burned more natural gas last year than coal for the first time in the company's 100-year history. The share of coal it used for total power generation declined from 70% to 30%, while the natural gas share rose from 11% to 47%.  

Not surprisingly, coal's share of U.S. electricity generation plunged to 37% last year, down from 42% in 2011. Meanwhile, the natural gas share increased to 30%, up from 25%. But now, with gas prices sharply higher and coal prices still depressed, coal is starting to look a lot more attractive as a fuel source -- especially when you take a step outside the U.S. and consider global opportunities.

Global demand for coal set to increase big-time
As Fool contributor Tyler Crowe recently noted, the global outlook for coal is much brighter than the domestic one for two important reasons.

First, natural gas is a lot tougher to transport than coal is. It requires a much more complex infrastructure, including massive pipeline networks and complex liquefaction and regasifaction terminals. In contrast, coal can be shipped more easily, typically requiring only existing railroads, ports, and roads.

Second, unlike in the U.S., where natural gas prices are market-determined, the prices in Europe and Asia are indexed to oil on an energy-equivalency basis, as measured by BTUs. That means coal should continue to be much more competitive in the international arena than it is in North America.

In fact, a January report by the International Energy Agency forecasted that coal will surpass even oil as the largest energy source by 2017. China and India, which together account for roughly a third of the world's population, are expected to be the primary drivers of this projected increase in global demand.

As these large, emerging economies continue to grow and their citizens transition toward higher income levels, their demand for energy will increase much faster than demand from developed countries. According to some estimates, China and India's total consumption of coal for electricity generation will be nearly double that of all the member nations of the Organization for Economic Cooperation and Development put together.  

Coal companies look to foreign markets
To capitalize on these expected trends, numerous U.S. coal companies are planning to boost their export capacity. For instance, Alpha Natural Resources (NYSE: ANR), which exported just 14 million tons of coal in 2011, has boosted its export capacity to about 25