Coal prices are not supposed to be rising as governments tighten environmental controls but that’s precisely what is happening at the premium end of the coal market where prices have soared.
Over the past six months the price of top quality thermal coal exported from the Australian port of Newcastle has risen by 25% to $115 a ton, a move reflected in the share prices of Australian coal exporters such as Whitehaven Coal which is up 27% over the same time, and Stanmore Coal which is up 16%.
The increase is more dramatic when looking back two years to a time when premium thermal coal exported from Newcastle was selling for $50/t, less than half its current price. Whitehaven’s share price is even more impressive over a two year time frame; up 140%.
Interestingly, the price of lower quality coal has not risen over the past 12-months, stuck at around $65/t.
The net effect of recent events in the coal market is to create a wide gap between the best quality coal, which is also the least polluting, with lower-quality coals that are cheaper but more environmentally damaging.
Flight To Quality
What could be happening is part of a change being seen across the world’s mining industry where there is a flight to quality as environmental regulations tighten around gas emissions and the disposal of waste generated in manufacturing processes. As a general rule high-quality raw materials create less pollution.
But there might be another factor at work in the coal market which is potentially more significant; declining supplies of premium coal as exploration for the fuel slows and government mining approvals become harder to get.
China has been a key player in the high-quality drift which can also be seen in the market for iron ore where limited supplies of top quality material fetch up to $90/t whereas the benchmark price is closer to $70 a ton and low-grade ore has dropped to $40 a ton.
Coal has always had two primary markets, material classified as coking which finds its way into steel-making, and energy (or thermal) coal used to generate electricity.
Steel-making coal has not featured in the latest price moves which is all about demand for electricity in Asia.
Shortage Developing
The price difference between high quality and low quality coal has become so wide that investment banks such as Morgan Stanley have noted the potential for a shortage in premium material as well as environmental factors being behind the difference.
In a recent research report Morgan Stanley said the widening of the price gap from a 22% difference between low-grade and high-grade coal two years ago to a 90% gap earlier this year.
“One could argue this to be similar to the flight-to-quality seen in iron ore, the rise in price is comparable, but unlike iron ore, we believe the spiking energy differential is not just a China demand story but about weak supply of premium coal,” Morgan Stanley said.
Over the next year the price gap is expected to narrow as producers of high-quality coal in countries such as Colombia and Russia are attracted to the high prices on offer in Asia.
In the longer term, however, the drive for reduced pollution from coal burning could turn out to be a factor in coal prices staying high because tough environmental protection laws in a number of countries are limiting the development of new coal mines.
In other words, demand for coal remains high and is growing in some countries, but supply is struggling to keep up.
In effect, efforts to limit coal production has become a significant factor in lifting the coal price for companies already producing.
That certainly appears to be the case in Australia, one of the biggest exporters of high-quality coal and home to some of the toughest rules governing mine development.
Not only is the situation an example of flight to quality it could also be an example of unintended consequences.
Source: Forbes
