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King Coal: Down but Still Kicking

Summer is starting to pick up some steam with rising temperatures around the US. With El Niño transitioning to La Niña, forecasts are calling for a warmer than average summer this year. That’s good news for natural gas power burn and storage levels that are well above five-year averages, but what about natural gas’s closest power burn competitor: coal?

As natural gas prices have fallen and remained at low levels, electric distribution companies (EDCs) and independent service operators (ISOs) have increasingly turned to natural gas as a fuel to provide electricity to their customers. The graphic below shows strong results in 2015 year-over-year growth in natural gas deliveries to power plants in the US since 2012.

Even with the challenges associated with coal production due to increased use of natural gas coupled, coal stockpiles have risen to levels not seen since 2012 and will most likely continue on a growth trend. Stockpiles have grown enough at some plants to reach critical levels, where in order to avoid self-combustion, the plants are able to bid into the generation stack at prices lower than their cost of fuel. This allows them to relieve pressure on their stockpiles and could limit the ability of natural gas to capture increased market share in the short term.

Looking beyond short-term stockpile issues at larger power generation dynamics, it must be remembered that not all increases in natural gas utilization are permanent. Permanent, or structural, changes occur in cases such as the shuttering of a coal fired power plant and commissioning a replacement natural gas plant. Whereas, much of the increased gas utilization is caused by the short-term pricing dynamics of natural gas versus other fuels, where an ISO chooses to dispatch more natural gas generated power plants since the cost of natural gas as a fuel is cheaper than others. BTU Analytics estimates that between 2010 and 2015 the US has seen about 1.8 Bcf/d of structural natural gas power burn demand growth, while the balance was most likely caused by short-term prices.

How much more market share can natural gas wrest away from coal? Based on the 2015 delivered cost of coal, the graphic below shows the potential amount of coal displacement at different prices.

With Henry Hub prices over $3.00, major regions such as the Midwest and Northeast, lose virtually all further opportunity for economic coal displacement. In fact, not only does natural gas lose the ability to grow at those prices it will most likely give up some ground to coal. As we have discussed in previous commentaries and our North American Upstream Outlook, declining associated gas production with the high risk of Marcellus and Utica pipeline delays is setting the natural gas market to be undersupplied in 2017 and 2018, in turn driving Henry Hub prices up. At these increased prices some ISOs will choose to go back to dispatching coal fired power plants rather than natural gas fired plants. However, this reprieve for coal will not last forever and King Coal is likely to find himself back on the ropes.

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Matthew Hoza is a Manager of Energy Analysis for BTU Analytics. Currently he is leading the power team in the development of BTU Analytics’ Power View platform, which provides capacity, generation, and power price outlooks for ISOs and utility areas across the US. Previously, Matthew led the natural gas team that develops and maintains outlooks for natural gas production, demand, pricing, and infrastructure, as well as provided bespoke natural gas market analysis. He holds a M.S. in Finance from the Simon Graduate School of Business at the University of Rochester and B.S. in Physics from Florida State University.

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