While seasonally easing demand kept coal volumes down, stronger coal production has been sustained well into the spring. Weekly shipments came in 27% higher than the same period last year. Improved competitiveness against natural gas generation and firm seaborne coal markets have combined to boost the 2017 production outlook. During this month of low electricity loads, spot coal prices were flat to down in light trading. The NYMEX CAPP traded flat for May, while the NYMEX PRB fell $0.63/ton (5.3%), following downward movement in natural gas. Physical marker prices were mixed, with high-quality CAPP and NAPP markers slightly higher, and Uinta Basin markers turning lower. Prices for higher quality coal have held up as the export market remains firm.
Natural gas prices traded in a range during the month, with low electricity demand more than offsetting late-season colder weather. After opening the month at $3.20/mmBtu, Henry Hub spot prices climbed to a mid-month high of $3.27/mmBtu before easing to close May at $3.09/mmBtu. Natural gas remains in a moderate surplus, with early season injections exceeding historical averages. Storage levels as of May 19 stood at 2,444 Bcf, 240 Bcf above 5-year averages. The surplus weighed on natural gas markets a bit during the latter half of the month, as mild weather delays the start of the cooling season and surplus hydroelectric generation cuts natural gas demand in the Western U.S.
Coal inventories remain in surplus, with March stockpiles reported at nearly 164 million tons, 7.9% above normal. This represents a modest increase from February estimates, and may partly account for recent modest price declines. Ordinarily, lower demand during the second quarter would drive a decline in production of about 1.8 million tons per week, or 21 million to 23 million tons below first-quarter levels. However, firmer demand for eastern bituminous coal in particular has added 7 million tons to the production outlook for the quarter, with possible upside going into the summer. Approximately 3,500 MW of coal plants are forecast to retire during the second quarter, which may create a demand drag of 1.5 million to 2.0 million tons going into summer.
The chart below shows the current price forecast for the PRB 8800 and 8400 markers.
The Powder River Basin has the greatest opportunity to increase pricing against a firmer natural gas strip. Lower spot prices to close May indicate increasing sensitivity of pricing to natural gas prices, as shale production grows in the mid-continent and shale-sourced gas increasingly flows to the Midwest. On a forward basis, the current strip for natural gas trends lower than current prices through 2018, helping to keep a lid on PRB 8800 price levels below $13/ton. PRB appears to have used much of its pricing 'headroom' against the natural gas strip, after factoring in transport costs to plants. Looking past 2018, higher prices for PRB will be supported by upward movement in natural gas prices, offset by the expected demand drag of coal retirements in the West and Midwest.
While competition from natural gas remains severe for eastern coal-fired generation, higher natural gas prices at Henry Hub and tightening basis relationships in the Northeast shale regions, have provided some relief. Shipments through the third week of May indicate continued support in both international and domestic markets. The pricing rally in high-rank coal is cooling off, with natural gas and coal close to an equilibrium in generation markets. This is expected to bring Central Appalachian pricing back into line with bituminous markers in Northern Appalachia and Illinois Basin, with sustainable pricing expected in 2018. Price growth beyond 2018 will be limited by more competitive natural gas, intra-basin competition, and declining steam generation demand driven by additional coal retirements through 2021.
The above chart shows the easing of seaborne-driven pricing impacting bituminous markets through 2017, with the physical NAPP and ILB markers seeing price growth in 2017. S&P Global Market Intelligence projects that a combination of low and stable natural gas prices and a further wave of coal retirements will pressure generation demand in 2018-2019, with demand falling by 80 million tons from 2017-2021.
Coal production and demand
For the four weeks ending May 20, coal shipments averaged 13.7 million tons. This represents a normal ramp down in production associated with spring, 25% higher than the same time last year. Inventories remain above normal, and low electricity demand may do little to clear them fully before summer. On the improved demand picture for the year, the CAPP and NAPP coal regions are projected to beat 2016 production levels. A firmer natural gas strip, easing coal retirements during the year, and stronger seaborne metallurgical markets all contribute to the improved outlook. The markets for Illinois Basin and Southern PRB are projected to rebound collectively by 42 million tons this year on improved price competitiveness.
The chart below compares the current production forecast with recent history. Electric sector demand is projected to grow from 657 million tons in 2016 to 675 million tons in 2017, before coming under additional pressure in 2018. Lower natural gas prices combined with additional coal retirements will tend to keep coal generation demand below 625 million tons per year from 2019-2024. The 2017 boost in demand is expected to be relatively short-lived, with the overall coal market (domestic demand and exports) projected to decline by 83 million tons by 2021, compared to 2017.
Production outlook — Powder River Basin
S&P Global Market Intelligence projects 21 million tons of production growth in the PRB compared to 2016, with surplus coal inventories reduced compared to last year. The positive demand impact of higher natural gas prices has been offset by winter's mild end and the low-demand shoulder season. Powder River Basin 2017 production (Northern and Southern) is projected at 341 million tons, 7% higher than 2016. Demand levels for non-PRB western and interior (Texas and Upper Midwest lignite) coal have held firm, limiting further growth opportunities for PRB mines.
Production outlook — Illinois Basin
Increased availability of Marcellus/Utica shale natural gas into the Midwest has pushed Illinois Basin producers to discount spot coal more heavily than other bituminous regions so far this year. However, higher natural gas prices through May have supported higher tonnage than 2016. S&P Global Market Intelligence forecasts 2017 ILB production at 119 million tons, 21 million tons higher than 2016. Natural gas prices are expected to move downward by 2019, with shale gas deliverability into the Midwest tending to drive coal volumes down. Growth in Illinois Basin volumes post-2018 will depend principally on displacing Appalachian coal and on export market growth.
Production outlook — Appalachian basins
Growth in natural gas takeaway capacity from the Appalachian shale regions is beginning to support higher regional natural gas prices, although significant discounts to Henry Hub prices remain. While much of Appalachian basin coal production has been reduced to core metallurgical, local steam, and export steam coal markets, long-haul thermal markets may see growth compared to 2016. S&P Global Market Intelligence expects 2017 production will total 185 million tons, four million tons higher than 2016 levels. Reverse-switching due to higher natural gas prices in 2017 is expected to supplement growth in metallurgical coal exports. Production levels in 2018-2019 are projected lower due to lower natural gas and further coal plant retirements. The boost in metallurgical coal exports during the second half of 2016 has continued, and metallurgical coal production has held firmer than production for domestic steam markets.
Coal forecast methodology overview
Market-indicative coal forecasts produced by S&P Global Market Intelligence represent forward curves for spot-traded instruments, analogous to a strip of contracts, with the shorter tenors (current year, prompt year, plus additional years if available) driven by the observed/assessed market and the longer tenors (typically years 3 to 20 for physically assessed markers and NYMEX futures) driven by fundamental estimates of cash costs of production, accepted returns to capital, regional productive capacity, and forecast supply and demand. For the long-tenored portion of the curve, S&P Global Market Intelligence forecasts prices for specific coal markers, and defines the remaining markers via historical spreads.