Thursday, June 23, 2011

It’s Time to Invest in Coal

By Marin Katusa, Casey Research Energy Team

Coal prices are surging ahead even as most other commodities pull back, spurred on by expectations that metallurgical and thermal coal production will again fail to meet rising global demand this year. The result? Record profits for major coal producers like Xstrata, a surge in acquisitions from coal-hungry India, Chinese electricity shortages, and a raging carbon tax debate in Australia amid record investments in that country’s coal-heavy mining sector.

The price spikes in the second half of 2008, which were completely unsustainable and disappeared rapidly in the recession, distort the picture. So instead, imagine the above graph without those peaks. What you get is an almost sustained ascent in the spot prices of thermal and metallurgical coal over the last four years. Metallurgical coal, which is used to make steel and is also known as coking coal, has almost doubled in price, climbing from just above US$80 per ton in mid-2007 to more than US$160 per ton today. Thermal coal, which is burned to generate electricity, has risen from the US$45 per ton range to almost US$80 per ton.

There are a couple of countries that really take notice when coal prices start to rock. Australia is the world’s biggest coal exporter and relies on thermal coal for 80% of its electricity. China mines more coal than any other country in the world but still imports more to support its power and steel-making needs – the country mines and burns more than three billion tons of the black stuff annually. And India – where the economy is growing at 8% annually – is facing multimillion ton coal shortages even as it works to halve a 14% peak power deficit within two years.

Let’s start with Australia, a country embroiled in a debate over newly introduced carbon taxes. Those taxes are set to come online in mid-2012, ahead of a cap-and-trade system that could begin as early as 2015. Proponents say the tax is necessary to force a coal-reliant country to move toward cleaner energies. However, the tax has drawn widespread criticism from the nation’s huge coal industry. Australia supplies 19% of the world’s thermal coal and 59% of its coking coal; these industries are worth A$18 million and A$40 million, respectively (2009 numbers). With coal prices expected to keep rising for the next few years at least, Australian coal miners had big expansion plans. Instead, if the carbon tax goes ahead, the industry says it will have to close mines, meaning major tax and job losses for the nation. Opponents of the tax also say it will make Australia’s own energy more expensive and less reliable.

Another argument against the tax is that reducing Australia’s coal output could in fact increase global carbon emissions, because power stations in China and India would simply use dirtier coal to fill the gap. Australia’s thermal coal is perhaps the best in the world, with high energy content and few impurities. Thermal coal from Indonesia has only 70% of the energy value of Australian thermal coal, which means that much more coal would have to be mined, processed, and shipped.

In the context of this very current, heated debate – the Australian coalition government is set to meet this weekend to hammer out the details of the tax – a new report from the Australian Bureau of Agricultural and Resource Economics and Sciences shows that planned investments in the country’s mining sector have soared to a record A$173.5 billion. The figure represents development plans for 94 projects, including 35 mineral projects, 35 energy projects, 20 infrastructure projects, and four processing projects. The Bureau estimates A$55.5 billion in mining-industry expenditures in the current year alone.

A fair chunk of these investments will come from coal companies, which have money to spend because the current coal prices are providing record profits. Xstrata, the world’s largest exporter of thermal coal, is expected to report an 83% gain in net income this year, according to a Bloomberg compilation of analysts’ expectations. Another good example comes from Arch Coal (N.ACI), which recently tendered a $3.4 billion offer for International Coal Group (N.ICO) aimed at creating Australia’s second largest metallurgical coal producer.

China is another major coal producer, but there the issue is coal shortages. The country’s economy is steaming ahead at a 10% growth rate, and that kind of development requires a lot of steel. This year alone, China is facing a shortfall of 56 million tonnes of metallurgical coal – the country is expected to produce 513 million tonnes, but consumption will reach 569 million tonnes. The Asian giant imported 47 million tonnes in 2010, helped by a 278% increase in imports from Mongolia. And even though domestic coking coal production is expected to increase by 80 million tonnes per year by 2015, China’s latest estimates predict a 100-million-tonne annual shortfall in coking coal by 2015.

It is not just coking coal that China needs. Shortfalls in thermal coal supplies are the main culprit in an expected 30-million kW summer power deficit. And the problem is exacerbated by the fact that the country’s electricity pricing system has not kept up with coal price increases. Plants sell electricity to the State Grid Corp. of China (SGCC) at a set price, and SGCC then resells to consumers. But the set price has not kept pace with coal prices. As such, coal-fired generators lose money for every ton of coal they burn, which is not exactly an incentive to produce more power. Over the past three years, China’s top five state-owned power generating plants have lost some 60 billion yuan, while SGCC posted a 40-billion-yuan profit last year alone.

China is expecting to face its worst power shortage in years this summer. Widespread droughts, which have decimated the country’s hydropower capacities, are not helping. As many as 20 provinces and territories have already been put on power rationing, including the country’s industrial heartland. Some 44 major industries in Zhejiang (a manufacturing hub near Shanghai) have been told to limit consumption or face prohibitive tariffs. The story is much the same in Guangdong, south China’s manufacturing hub. And producing more coal is not an option – the government has acknowledged that China is near its peak coal production capacity.

To continue on a familiar theme, India is also facing an acute coal shortage. In April, for example, the nation imported 32 million tonnes of thermal coal against a total requirement of 36.9 million tonnes. At the end of March, 26 of India’s thermal power stations reported having only critical stocks of coal, including ten stations with fewer than four days’ worth of fuel. On Monday, the prime minister convened an emergency meeting to discuss the coal shortages, which are expected to total 112 million tonnes over the next 12 months.

India has been working to address the coal void for some time now. Indian firms have been scouring the globe for coal assets, and the effort has secured several major deals: Indian conglomerate Adani is set to buy the 25-million-tonne-per-year coal export terminal as Abbot Point in Queensland, only a year after buying the Galilee coal project in Australia for $2.7 billion; Indian trader Knowledge Infrastructure signed a joint venture deal with Indonesian miner PT OSO International to develop thermal coal mines in Kalimantan; and three Indian firms are among those shortlisted to buy Australian coal explorer Bandanna Energy, a deal expected to top $1 billion.

Coal India, which produces 80% of the country’s coal, is not going to be left out of the shopping spree. A few months ago, the company set aside $1.2 billion for overseas buys, specifically in Australia, Indonesia, and the U.S. And it has the money – net income for the first quarter totaled $931 million and full-year profits were up 13%. Shares in Coal India started trading Nov. 4 after the government raised $3.2 billion by selling a 10% stake, in the country’s largest public offering to date.

The story could go on, discussing other coal-needy countries like Japan, South Korea, Germany, and so on, but perhaps the point has been made. Global production is maxed out with respect to existing infrastructure, so increases from here can only occur as quickly as new mines, rail lines, and ports can be built. Coal prices have been climbing steadily, based on real supply constraints, and most industry watchers agree that they will hold their ground or continue to climb for the next few years.

Those countries with coal should count their blessings.


The misery index, the sum of inflation and the unemployment rate, is back on the climb in recent months. The index is now higher than any point during the credit crisis and just shy of the 2010 highs. If this is a measure of the Fed’s dual mandates I think it’s safe to say that they are failing miserably. But that’s to be expected when the man at the steering wheel doesn’t even understand the system he’s in charge of….

McAlvany Weekly Commentary

Bill King Interview: Europe is the Detonator – The U.S. is the Bomb

Show Highlights:
-We are currently seeing the Collapse of Western Socialism in Europe.
-A Greek default is the first phase of a chain reaction involving Portugal, Spain, Italy…and ultimately most sovereign debt.
-During this debt “end game” scenario, it’s critical for the investor to be postured in a defensive strategy – including physical gold and cash.

About the Guest: Bill King, has authored “The King Report” for over 18 years. It is an independent view on global, political, financial, and economic factors that influence world markets. As author of the firm’s daily research, Bill’s candid observations and forecast on the economic, financial, and political forces that are impacting the markets have been extremely accurate.

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Dell Shares Poised for Push Higher:DELL

Though many chart-watching traders tend to zoom in on very-near-term daily (and even intraday) charts in their efforts pinpoint an opportunity, the reality is that the biggest and best technical clues are usually only evident when you take a step back and look at the bigger picture.

Case in point? Dell (Nasdaq:DELL). Most everyone knows this computer maker’s stock has weathered the recent bearish storm quite well. What most everyone may not recognize, however, is that Dell shares are actually on the verge of a major breakout.

Most good trade setups have one crystal-clear reason to expect a particular move. What elevates Dell to a great trading opportunity is that the charts are showing multiple reasons to be bullish, all coming together at about the same time. In no particular order:

  • Bearish resistance lines that extend all the way back to 2005 (purple) have finally been breached. Simply put, after three failed attempts from Dell to fight its way past its ceiling, the fourth attempt finally worked. Now that it has, there’s lost time to make up.
  • Since early 2009, a string of higher lows has now developed two distinct support lines (orange), the second of which is more aggressively bullish than the first.
  • Though it’s tough to see with just the raw volume data, the rising accumulation-distribution line (light blue) confirms there are more buyers than sellers — and have been for a while. This is crucial to a trend’s longevity.
  • The only remaining known resistance line left to topple is the $17.50 area (blue, dashed), and it’s about to be attacked. If and when that ceiling falls, it’s game on for the bulls.

If it were just one or two of these bullish clues falling into place, Dell would be nothing to be especially excited about. To see three of the four hints take shape, however, with a fourth one just around the corner, it’s hard not to be excited.

By now, you also will have recognized something you rarely see anymore, particularly when it comes to technical analysis — a weekly chart. Some consider them a relic in the current trading environment, where news is old by the time you read it, and traders are making an exit plan even before a trade is entered. Fair enough — if the goal is simply to quickly scrape off a couple of points’ worth of profit and then move on.

If you’re looking for very big gains, though — as in triple-digit gains – and don’t mind holding a pick for several months, then a weekly chart is the only way to weed out the distracting and misleading day-to-day noise and spot the true big-picture undertow.

How does that idea apply to Dell’s stock ? If the only tool traders were using was a daily chart, owners may be prompted to make an exit once the stock reaches a resistance line that extends all the way back to last July. As we’ve already established, however that’s actually a few cents above the key long-term breakout level; short-term traders would be looking to sell Dell at the very a point in time when the stock’s likely to start accelerating.

It’s almost needless to point out that the mid-$17 level is a pivotal area for Dell and its investors. If and when the stock approaches $18, look for bullish fireworks to start.

End note: While the technical clues here imply the company is performing adequately in terms of revenue and profit generation, it should be acknowledged just how well Dell is doing. Last quarter’s earnings of 49 cents a share and the trailing-12 month per-share earnings figure of $1.67 are both record-breakers for the company. Yet the stock is about as cheap as it’s been in years. You can add that fundamental reason to the list of technical reasons why Dell has such a great shot at going higher from here.

Who Owns the U.S. Equity Market?

The following chart shows who holds U.S. equities, including foreign shares traded in the U.S.. at the end of March 2011. Notice that 36 percent of the market value of shares were held by the household sector. Our good friend, Charles Biderman of TrimTabs, does points out that the household sector includes “among other things, hedge funds, endowments, non-profit organizations, and direct purchases of equities by investors.” Furthermore, according to the Federal Reserve,

financial assets and liabilities of the household sector are largely derived as residuals because reports on the balance sheet activities of households are generally not available, except intermittently. In other words, the FFA starts with known economy wide totals for individual transaction categories and then amounts reported to be held by other sectors are deducted, leaving the household sector with the remainder. For most transaction categories, such as home mortgage debt and time deposits, this method seems reasonable because the household sector is the largest holder. Yet uncertainty about the accuracy of the asset and liability estimates in the FFA household sector remains and at times, theFFA estimates have been in question because of their residual nature.

Nevertheless, the chart does give a decent snapshot of the major holders of U.S. equities. Stay tuned, we will be back with more analysis on this topic. Click on chart for better resolution.


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