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Coal Benefits as Natural Gas Prices Rise

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Natural gas prices

Owing to forecasts of warmer weather in the South and partly due to the lower-than-expected addition to the natural gas inventory as discussed in part one of this series, natural gas prices rose during the week ended August 7 after falling for two straight weeks on inventory concerns. The natural gas rig count, which reflects producers’ sentiments, rose by four to 213.

Weather is a driving factor behind natural gas prices, as people use more electricity for cooling on warmer days. Natural gas powers 30% of the overall electricity generation in the US.

Henry Hub benchmark natural gas prices came in at $2.80 per MMBtu (million British thermal unit) on August 7 compared to $2.72 on July 31.

The natural gas front month futures price, which gives you an idea of market expectations for near-term natural gas prices, rose to $2.80 per MMBtu on August 7 compared to $2.77 per MMBtu on July 31.

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Why are these indicators important?

The shale gas boom led to a massive rise in the 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, and this trend has continued.

Natural gas prices and coal’s market share in electricity generation are related. When natural gas prices rise, coal gains market share, as 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 Resource Partners (NRP). With a rise in prices, natural gas becomes more important, which makes utilities prefer burning coal over natural gas.

For utilities (XLU) like Dynegy Corporation (DYN) and Edison International (EIX), the impact depends on the level of regulation. For regulated utilities, the impact is generally negligible, as the fuel cost is part of their tariff calculation. For natural gas power plants supplying electricity at fixed price contracts, the increase in natural gas prices is negative, as they spend more on fuel.

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