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Will 2015 See A Rally In Coal?

2014 was, on the surface, a good year for those of an environmentally conscious bent. Under pressure from developed nations, two large emerging economies, India and China, both made some commitment to a reduction of greenhouse gasses and laid out plans to increase the use of renewable energy sources. That, combined with falling oil prices, put enormous pressure on the coal industry, already burdened with increased regulation in the world’s major economies. That drop in oil and coal prices, however, may set up a year that will see significant gains in coal in 2015.

It is, of course, hard, if not impossible to be bullish on coal in the long term. Despite the industry’s best efforts to market “clean coal”, coal is still seen as the dirtiest, most environmentally harmful fuel, and the shift away from it as an energy source looks set to continue in the next couple of decades. In the short term, however, it is starting to look as if twenty or so years of decline are already priced into stocks, and there is reason to believe that the pace of that decline at least will slow in the coming months.

Let’s face it, not many of us who live in the real world believe that India and China’s actions are based on a purely altruistic concern for the environment. Faced earlier this year with a U.S. administration that was seeking some cooperation and with seemingly intractably high fossil fuel prices, planning to reduce dependence on oil and coal made sense. With the price falling, however, shifting to alternatives becomes less urgent and maybe even less desirable in the short term. The prospect of a boost to growth in the short term offered by lower oil and coal prices by delaying change may prove too much of a temptation.

It must be emphasized that going into this year long of coal stocks is a very risky strategy, and as such one that must be watched closely, but combining one high risk and potentially high reward individual stock with a broad based ETF gives a good chance of decent profits in the first half of the year. From an individual stock perspective it makes sense, if you believe that coal in general could bounce back, to look at one of the hardest hit stocks, such as Alpha Natural Resources (ANR).

ANR certainly doesn’t fit the normal profile of stocks that investors should consider. They have not had a profitable quarter since the beginning of 2011 and, despite over $1 Billion of cash on the books and positive levered free cash flow last quarter there is still a chance of total loss on such an investment. The point is, though, that this is not really an investment; rather it is a trade with a 3-6 month time horizon.

ANR Chart

ANR closed the year at $1.67, representing a 1 year loss of over 75 percent. A return to over $7 looks extremely unlikely, but from here any news that isn’t downright disastrous is likely to fuel a relief rally of sorts; in that scenario a return to the $4 level seen as recently as August looks distinctly possible as the shorts get squeezed. Once again, it must be stressed that this is not a long term play. ANR has been selling the family silver but is still saddled with enormous debt. This is a bet on a relief rally, not a vote of confidence on the company’s long term prospects.

A slightly longer term bet on a recovery of sorts in coal can be made by buying the Market Vectors sector ETF, KOL.

KOL Chart

As you would expect, KOL has pretty much tracked the commodity price, holding up pretty well at the start of last year before losing around 25 percent as prices began to fall. I have said in previous articles that I believe oil could have a little further to fall, which is a negative. Coal, however, has been hit so hard and there is so much bad news factored into the price that any hint of a slower than expected decline could prompt a sharp move back up in futures, and therefore in KOL.

2015 then could, in a counter-intuitive way, be a good year for coal. Environmental pressure to reduce usage will remain, but in the face of stark economic reality it is likely that emerging nations will return to talking a lot about reducing dependence on the fuel rather than actually doing anything about it. That may not be good news for the planet, but for an industry starved of good news it may spark a short term rally, giving alert investors with an appetite for risk a chance of a decent return.

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