Nice Boost for Coal Stocks
Wednesday's trading session saw shares of most of the major coal miners jump on favorable news out of China, regarding renewed government support for urban development and growth. Shares of Alpha Natural Resources rose roughly 11%, Arch Coal was up over 8%, Walter Energy was up about 7%, and Peabody added 4.5%. While there was little follow-through during Thursday's session, the gains held. When this move is considered in conjunction with a frequently overlooked tax advantage to coal miners by shipping their product overseas, coal becomes an interesting allocation for the long term.
New boss, same as the old boss
Under the new leadership of Xi Jinping, China's ruling party has signaled its intention to focus on increased urbanization and allowing market forces to dictate prices for more goods. These comments led to a strong performance for both Chinese machinery and cement companies on the news, with some of the largest market participants surging by 5% to 10%. Also driving the Chinese market was the abolition of a regulation that limited investments by insurers in banks. The release of this restriction led to a strong surge in the financial sector that, combined with infrastructure companies, led to the largest gain in the Chinese market in three months.
The news is reminiscent of the Chinese government's announcement of infrastructure stimulus a few months ago. With reference to that news release, Patricia Mohr of Scotiabank explained:
In September, a new infrastructure development programme for China was announced. About $160-billion will be spent on subways, roads, ports and navigation channels. This will boost GDP by about 2% over the next four years. We're already beginning to see the effects of this in the steel and cement sectors.
The recent news from China signals that this trend may not only continue, but may intensify.
Chinese demand should burn higher
In a recent press release, in which Peabody discussed third quarter results, the company shared its bullish projections for coal demand looking forward:
Anticipated global economic growth and China's infrastructure spending should lead to global seaborne metallurgical coal demand growth of 10 to 15 percent in 2013, and Wood Mackenzie projects coal to overtake oil as the world's largest energy source in 2013 as global coal demand further increases next year.
This is particularly impressive against the backdrop of falling U.S. demand; "Peabody projects U.S. coal demand will decline approximately 120 million tons in 2012, the vast majority of which has already occurred."
Geography is an important factor in this equation, as companies operating in the Powder River Basin have a certain advantage, given their proximity to the West Coast of Canada. In addition to Peabody, Arch Coal and Alpha Natural Resources have a significant presence in the region. Proposed ports in both the U.S. and Canada should prove advantageous for these players, but are several years away from being operational. There are currently no operational U.S. coal terminals on the West Coast.
For U.S.-based coal export, one must look to Houston and Kinder Morgan Energy Partners. The company recently expanded its arrangement with Peabody, increasing the coal company's export capacity by five to seven additional tons of coal per year, from 2014 to 2020. Kinder Morgan has a similar deal with Arch Coal, by which that company is able to ship at least 10 million tons of coal per year out of the Texas terminal. Despite these important relationships, many companies, including Kinder Morgan, are taking steps to increase West Coast export capacity.
As Walter Energy is a pure metallurgic coal play, despite lacking this geographical piece of the equation, recent rumors suggest that the company may be an acquisition target of BHP Billiton . BHP, which likely has a more significant interest in a metallurgic play than a thermal play, will certainly benefit from the movement in China.
The tax angle
As ports or "coal terminals" scramble to serve the rising demand for coal overseas, U.S. companies are leveraging a tax advantage that exists in the Canadian code. While Canada's carbon tax laws were set up to protect the environment by taxing the sale of coal that will be burned inside of British Columbia, the law exempts any supply that is exported from the country with the intention of being used elsewhere. The province is already home to some of the lowest business taxes around, meaning that the added ability to export coal, without a carbon tax, makes BC a very attractive place to do business. When this factor is combined with the convenience of shipping coal from the West Coast to China and India, the advantages of mining the Powder River basin become even more evident.
Explosive price moves
It's important to understand how truly volatile the coal industry can be before investing. Looking at the chart below, you can see the enormous range that these stocks have traded in over just the last six months. Unless you're prepared for this volatility, this is not a good industry for the faint of heart; single-day, double-digit moves are not uncommon.
If, however, you are both willing and able to maintain a position for the longer term, not reacting to every swing up and down, coal continues to be an interesting place to invest. On a global scale, the companies in the industry are well positioned. An allocation to coal should lead to positive results if the expected trends play out in 2013 and beyond.
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The article Nice Boost for Coal Stocks originally appeared on Fool.com.Fool contributor Doug Ehrman has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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