3 More Reasons To Like U.S. Thermal Coal

3 More Reasons To Like U.S. Thermal Coal

Coal miners are Wall Street pariahs right now, but that could change quickly once coal supply and demand start to stabilize. Utilities, mining equipment makers, and railroads are all starting to talk about the first signs of progress for the beleaguered miners.

Utilities are using more coal
When it comes to generating electricity, fuel cost has a huge impact on what gets burned. In the first half of the year, for example, Duke Energy increased the amount of power it generated from coal in its Commercial Power unit by 18% and decreased natural gas-fired power by about 20%. The reason behind the switch was an increase in the price of natural gas.

Although revenues at the Commercial Power unit are about a tenth the size of those generated from the company's regulated arm, Commercial Power operates in a highly competitive market. Because of this, keeping costs low is paramount. That natural gas is losing out to coal right now is a notable shift.

American Electric Power, another utility giant, is also making the coal switch. It used 37% less natural gas in the first half and increased its use of coal by around 4%. That said, the long-term trend is still toward increased natural gas generation. This accounts for around 17% of the company capacity, more than double what it was two years ago. Coal, however, still represents about 70% of the total.

For AEP and Duke, the flexibility to switch to the lowest cost fuel mix is important to profitability. With natural gas prices higher year-over-year, the companies are already making the switch. While this may not boost coal demand much through the end of this year, it suggests that 2014 will be a better one for the miners.

The mining equipment view
That sentiment is echoed by Caterpillar and Joy Global , two of the largest sellers of mining equipment. Caterpillar noted in its second quarter earnings release that higher natural gas prices "made coal more competitive for electricity production." It went on to say that it expected a 1% increase in coal production in the second half of the year. That may not sound like much, but it is potentially the start of a trend.

Joy, meanwhile, believes that the U.S. thermal coal market will be among the first of its natural resource end markets to recover. In fact, it believes that utilities will continue to burn down their coal stockpiles this year, setting "the stage for coal delivery increases" next year.

A sliver of an increase in the second half of the year with a demand uptick more than three months away is actually great news for the coal industry. That said, if U.S. coal is the first end market to recover then Caterpillar and Joy have a lot longer to wait before their own businesses start to turn higher. Sales at Caterpillar's Resource Industries segment (which produces mining equipment) saw a second quarter drop of 34% while Joy's equipment sales fell nearly 5%.

Joy believes that sales will remain weak through 2014 as well, so you should probably avoid this pair until there's an uptick in orders. Their positive "outsider" view of the coal industry provides additional evidence of the U.S. thermal market's nascent turn, however.

More hauling going on
Norfolk Southern saw notable year-over-year volume declines in metallurgical coal, export coal, and industrial coal in the second quarter. Utility coal volume was up 3% in the quarter, however. That trend was consistent with Union Pacific , which saw a 1% uptick in the tons it hauled out of the Powder River Basin, the cheapest coal region in the United States.

Coal made up about 17% of Norfolk's revenues in the second quarter and 19% at Union Pacific. Moving coal is a big business for both companies. Although the trends in metallurgical and export coal aren't exactly positive, U.S. thermal coal could add to the top and bottom lines of both of these haulers in 2014. Furthermore, 2015 could see the benefit of the other coal markets, most notably metallurgical coal, starting to turn higher as well.

Don't look now, but...
While coal's image is forever tarred by its relatively dirty profile, that doesn't mean that the cheap and plentiful fuel source is dead. The market for U.S. thermal coal is rebalancing, and now could be the right time for you to take a deeper dive into names like Alliance Resource Partners and Cloud Peak Energy.

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The article 3 More Reasons To Like U.S. Thermal Coal originally appeared on Fool.com.

Reuben Brewer has no position in any stocks mentioned. The Motley Fool recommends Alliance Resource Partners, L.P.. 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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