Energy

Liam Denning is a Bloomberg Gadfly columnist covering energy, mining and commodities. He previously was the editor of the Wall Street Journal's "Heard on the Street" column. Before that, he wrote for the Financial Times' Lex column. He has also worked as an investment banker and consultant.

If you want to understand why mere policy won't spark a renaissance for America's coal sector, a good place to start is Consol Energy Inc.

Bloomberg News reported on Friday that Consol has hired banks to sell or otherwise dispose of what remains of its coal business. Consol, which traces its roots back to mining operations in Appalachia in 1864, will be left as an exploration and production company focused on producing natural gas.

On paper, Consol's unusual business model makes sense. Coal and gas compete largely to supply power plants, so owning both provides a natural hedge. In practice, that hedge isn't worth much when both fuels engage in a race to the bottom:

The Rundown
Coal and natural gas prices have stayed low since collapsing in 2008
Source: Bloomberg
Note: Henry Hub natural gas spot price and CSX physical coal price for central Appalachia. Coal price converted from tons at 12,000 BTU per pound.

Consol's strategic shift toward gas kicked into high gear in 2010, when it bought Dominion Resources Inc.'s Appalachian E&P business for about $3.5 billion (roughly Consol's market capitalization today). In the years since, it has been shedding coal mines, most notably Consolidation Coal Co., sold to privately held Murray Energy Corp. for $3.3 billion in 2013. During this time, being a hybrid of an E&P company and a coal miner hasn't inspired much love from investors:

Compound Fracture
Consol's hybrid model hasn't been a winner for the stock
Source: Bloomberg
Note: Performance indexed to 100.

It isn't just a muddled equity story that has pushed Consol to targeting a full exit from coal mining in 2017, though. Here's CEO Nicholas Deiuliis answering a question at December's investor day:

And now, we go to basically, OK, which one of these opportunities or options makes the most sense for the electricity grid or other demand sources moving forward? And we still come out looking that, there's going to be a significant resetting of that market share between coal and E&P, but now it'll be dictated more and more by what the price of natural gas is versus what the power cost of coal is ...We'll let the markets speak. It might take some twists and turns, but those percentages may change between coal and E&P market share over time. We still see a permanent reset there, where E&P has captured a lot of that moving forward.

Importantly, Deiuliis also acknowledged that a relaxation of regulations on mining and carbon emissions under the Trump administration would help coal. But not enough to persuade Consol to stay in it. If anything, the optimism injected into the coal sector by the election result and the re-emergence of large miners from bankruptcy, such as Arch Coal Inc., simply provides a window to offload the business:

Poll Vault
Investor sentiment on coal was boosted by the result of the U.S. elections
Source: Bloomberg
Note: Performance indexed to 100 on October 5, 2016 when Arch Coal's stock resumed trading.

Becoming a pure natural gas producer doesn't exactly put Consol on easy street. Gas prices have tumbled since December -- notice the run-up in Consol's stock back then -- as mild weather has outweighed lower supply, leading to a rare build-up of inventories in the middle of February.

One thing emanating from Washington, however, is working in Consol's favor.

A month ago, federal regulators approved two pipeline projects that will allow natural gas bottled up in the prolific Appalachian region to access other U.S. markets. Gas production in the Marcellus and Utica shale basins has outpaced local demand and pipeline capacity, leaving E&P companies there having to take significant discounts relative to benchmark prices:

Penned In
Excess supply has led the price of Marcellus gas to drop below $1 at times
Source: Bloomberg
Note: Spot prices. Henry Hub is the U.S. benchmark natural gas price. Dominion South Hub in Pennsylvania reflects prices in the southwest Marcellus shale basin.

With its core gas assets straddling the borders of Pennsylvania, West Virginia and Ohio, those new pipelines scheduled to start moving gas later this year should allow Consol to get better prices.

The flip side, as I explained here, is that unleashing Appalachia's resources more fully will tend to suppress gas prices in general. As it happens, that's one more reason for Consol to get out of coal while the getting's good.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Liam Denning in New York at ldenning1@bloomberg.net

To contact the editor responsible for this story:
Daniel Niemi at dniemi1@bloomberg.net