Is it Finally Time to Buy Coal Stocks?

Peter is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Talk about a fall from grace. Peabody Energy (NYSE: BTU) used to be the bellwether coal name in the U.S. and arguably the world. That was two years ago when the CEO, the de facto spokesperson for the industry, liked to talk about the "Coal Supercycle." At $18 and change, Peabody is very close to an all-time low. The last time the stock price was this low was at the bottom of the 2008-2009 financial crisis. 

As bad as things are in the coal sector, it's still shocking to note that from a high of $84 per share, Peabody is down almost 80%. With the stock at $18.40, is it a buy? No. Peabody is saddled with too much debt ($6 billion) with little hope of paying it down. If coal fundamentals rebound next year, perhaps Peabody would become attractive.

When There's Blood in the Streets It's Time to Buy

The sentiment surrounding Peabody is horrible, and the proverbial blood in the streets is flowing. For a rebound in Peabody and coal peers, there has to be a catalyst, but there simply isn't one. Take premium low-vol coking coal. From a high quarterly benchmark price of $330 per metric tonne in 2011 it's now offered in the spot market at $140 per tonne, down ~60%.

Foolish investors take note--even an increase in this key coking coal benchmark price by a third to about $180 would not be enough to repair the damage done to Peabody, Arch Coal, (NYSE: ACI) and Alpha Natural Resources, (NYSE: ANR). All three made top-of-the market acquisitions that proved to be big mistakes. In 2011, Arch acquired International Coal for its prospective coking coal pipeline. That pipeline is not worth anywhere near the billions of debt issued to pay for it. It may never be. 

Alpha acquired Massey Energy the same year. Massey had serious problems, but Alpha simply could not resist, and now Alpha is now choking on $3.4 billion of debt. Walter Energy, (NYSE: WLT) also near an all-time low, acquired Canadian company Western Coal in 2011. The legacy Western assets continue to be the highest cost mines in Walter's portfolio. Those assets are worth zero at current coking coal prices. 

Some Coal Companies Prudently Avoided the Urge to Merge

Consol Energy (NYSE: CNX) was smart. Instead of doubling down on coal it got bigger in natural gas assets by acquiring Marcellus and Utica Shale gas acreage. For quite some time that acquisition was criticized as natural gas prices languished in 2011-12. However, with natural gas prices averaging above $4 per mcf this year, Consol's strategy is looking pretty good.

Although Alliance Resource Partners and Cloud Peak have fared better, no company is immune. I already mentioned the coking coal price. On the thermal side, U.S. exports, which had been strong, are now in a decline. There's simply too much global supply from countries like Australia, Indonesia and Colombia.

Strong Prices in 2011 Won't Cut it in 2014

If readers take one thing from this article, remember this. The strong coal prices of 2011, $70-$75 per ton for thermal coal in central Appalachia and $200-$225 per ton for coking coal, won't be enough in 2014. Since then, two things have happened. Industry-wide production is down, meaning that per ton costs are up, while realized prices are down. Demand for coal in the U.S. is down and not expected to return to prior levels.

Therefore, the industry will need $75-$80 per ton thermal coal in central Appalachia and $250 per ton coking coal to thrive. Look at key industry input costs of oil and diesel; have they declined? No. How long will it take for coal prices to rebound to these higher levels? Likely not before 2015.

Conclusion

Coal stocks have taken yet another step down. Some suggest that all the bad news is out and that the coal stocks can't go much lower, and that may be the case. But is it time to buy? No, not without some signs of improvement in fundamentals. Despite truly horrible sentiment and what may appear to be "cheap" stock prices, there's no catalyst to buy anything in the sector.       

The coal industry in the United States has been in a state of flux since the arrival of a cheaper alternative for energy production: natural gas. Exports are becoming a much bigger part of the domestic coal landscape, and Peabody Energy has deals in place to get its cheaper coal from the Powder River and Illinois basins to India, China, and the EU. For investors looking to capitalize on a rebound in the U.S. coal market, The Motley Fool has authored a special new premium report detailing exactly why Peabody Energy is perhaps most worthy of your consideration. Don't miss out on this invaluable resource — simply click here now to claim your copy today.


Peter Epstein owns shares of Alliance Resource Partners. The Motley Fool has no position in any of the stocks mentioned. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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