PRB 8,400 coal production down but not out

The share of lower heat 8,400 Btu/lb coal produced in the Powder River Basin continues to decline but is unlikely to go away, say market sources.

In 2008, production of PRB 8,400 coal came to slightly more than 218 million st, or 45% of the total PRB market. In 2015, however, PRB 8,400 production dropped to 114 million st, or just 29% of the basin's output.

"It all comes down to price at the end of the day, but it will probably go down further then it is now," said a producer source.

The reason is simple enough: lack of demand.

But demand is cyclical, and 8,400 coal remains attractive for those utilities that are closest to the basin, given the lower transportation costs.

In 2015, the three largest destinations for 8,400 coal were Texas, Nebraska and Kansas.

"When you go shorter, [8,400 coal] comes in more competitive because the cost is much better on a [per] MMBtu basis," said a market participant.

For comparison, the three largest destinations for higher heat PRB 8,800 coal in 2015 were Illinois, Missouri and Texas.

"If freight is identical, you want to stuff the most BTUs you can in that car," said a fuel buyer.

Interestingly, while prices for 8,400 coal have moved with the market, they have remained relatively flat. In 2008, the spot price for 8,400 coal averaged $9/st. In 2015, the spot price averaged $8.76/st.

The spot price hit a daily high of $12.30/st on February 2, 2011 amidst the global rally in commodity prices, and a low of $5.15/st on July 24, 2012, in the aftermath of the so-called year without a winter.

On June 24, S&P Global Platts assessed spot PRB 8,400 coal at $7.20/st, slightly off its year-to-date average price of $7.85/st.

The current low price reflects low coal demand, as stockpiles continue to remain at elevated levels, particularly for subbituminous coal. The lack of demand is also evident in the wide spread to higher heat 8,800 Btu/lb coal.

On June 24, Platts assessed the spot price for PRB 8,800 Btu/lb coal at $9.50/st, putting the spread between the two at $2.30, well above the average spread of $1.22 when PRB 8,800 trades in the $9 range.

Since 2008, the spread has averaged $1.82, and reached a high of $5 in February 2008.

The spread typically widens as the price for 8,800 coal increases and narrows as it falls but the wide spread currently points to the lack of demand, said the market participant.

"The typical rule of thumb is [a spread] of $1.50-$2.50," said the second market participant. "If it gets above $2.50, it shows you [8,400 coal] demand is really soft, or [8,800 coal] is really high."

Despite low demand, there are also mining considerations that make 8,400 coal competitive.

"Lots of folks think why would you buy [8,400 coal] when you can get [8,800 coal]," said Cloud Peak Energy CFO Heath Hill at a Barclay's conference in Colorado Springs, Colorado earlier this month.

"Some [8,400 coal] has only 2x dirt over it where some of the [8,800 coal] has 4x dirt over the coal so the amount of earth you have to move to get to the coal changes the cost dynamic, and you're able to sell at lower price, and that's just one factor," said Hill.

"There are lots of factors going into this, but [8,400 coal] is not going to go to zero," Hill said.