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Coal Benefits from Rise in Natural Gas Prices

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Natural gas prices

After falling the previous week, natural gas prices rose again during the week ended July 17. Front-month contracts closed at $2.87 per MMBtu (million British thermal units) on July 17, up from $2.77 on July 10.

Henry Hub benchmark natural gas prices came in at $2.84 per MMBtu on July 17 compared to $2.75 on July 10.

According to data from the EIA (U.S. Energy Information Administration), natural gas surpassed coal in market share in electricity generation in April 2015. The news, combined with regained warmth in the weather, pushed natural gas prices higher. Demand for electricity for air conditioning rises with rising warmth in the weather. Thus, natural gas prices rose in spite of higher-than-expected inventory, as we saw in the first part of this series.

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Why are these indicators important?

The shale gas boom led to a massive rise in production of natural gas, which in turn spurred a drop in natural gas prices. As a result, natural gas became a competing fuel for coal. Cleaner, more competitive natural gas ate away market share from coal in electricity generation. It continues to do so.

Natural gas prices and coal’s market share in electricity generation are related. When natural gas prices rise, coal gains market share. It becomes more economical to burn coal for power generation. A fall in natural gas prices generally leads to a fall in coal’s market share because natural gas is available at cheaper rates.

Impact on coal and utilities

A rise in natural gas prices is positive for coal producers (KOL) like Alliance Resource Partners (ARLP) and Natural Resources Partners (NRP). With a rise in price, natural gas becomes relatively more expensive, making utilities prefer burning coal over natural gas and benefiting coal producers.

For utilities (XLU) like PG&E (PCG) and Edison International (EIX), the impact depends on the level of regulation. If their contracts are strictly on a cost-plus basis and they get a fixed return over and above costs, the impact is not significant. For utilities with fixed-price contracts in which they get a fixed price regardless of changes in input costs, the drop in natural gas prices is positive.

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