Eric Dutram: 2012 hasn’t been a very easy year for energy ETFs in any segment of the important industry. Rough trading in the oil market has kept that part of the market in the red, while incredible improvements in fracking have depressed natural gas prices to historic lows as well.
Meanwhile, the extreme weakness in oil and natural gas has also led to severe slumps in the more specialized corners of the energy market to start the year. This has been readily apparent in both those in the ‘clean’—such as solar and wind—and firms in the ‘dirty’ – such as coal—side of the power production picture, but has particularly been true in the coal market in recent weeks (see Three ETFs for the Energy Efficiency Boom).
The coal industry has been greatly impacted by a confluence of events to start the year, all of which have led to a bearish outlook for the key energy producing space. Coal is often used as a power plant input, but mild weather across much of the nation has kept this in check for the better part of the year.
Not only that but cheap and abundant natural gas has become relatively competitive with coal, thanks to both the slump in prices and the fact that gas is generally regarded as a cleaner fuel source than coal. In fact, coal use in the U.S. during the first quarter was the lowest for the time period since 1988, according to the EIA.
Additionally, a slowdown in Europe has also kept electricity demand—and thus coal usage—at the bottom end of the range, while a similar situation could be brewing in the key market of China as well. This is especially true in terms of a construction slowdown which could reduce coal demand as a steel input, creating a very negative international outlook for the product.
This confluence of events has pushed many coal companies to the brink in recent months and has apparently knocked Patriot Coal (NYSE:PCX) over the edge. In fact, earlier this week, the once mighty coal company—which was a $24 stock last July—was pushed into bankruptcy, filing for Chapter 11 protection, pushing the company to a 99% loss in the past 12 month period.
Now investors are beginning to worry about a number of other companies in the broad coal sector, wondering who might be next to fall in the space. Top companies in the segment have all been losers over the past five days while a few have lost more than 10% in the trailing one week period (see Oil Bull Market Is No Place For MLP ETF Investors).
Clearly, it isn’t going very well for the coal industry at this time and this trend could continue should more companies face trouble paying their bills. This may be the case if weakness reigns in the international markets or low growth stays in the U.S., or even if natural gas prices remain subdued. Any of these factors may keep coal prices depressed and thus could create pain for those holding onto stocks in the space.
For these investors who are dead set on holding on to coal, an ETF approach could be the way to go instead. This basket investment looks to avoid any sort of PCX debacle, helping to spread the risk around a host of companies instead of concentrating it into a few high risk firms.
After all, coal as an industry is not going anywhere at any point in the near future. Coal provides about half of all U.S. electricity while the figure stands at roughly two-thirds for China’s power consumption. Meanwhile, total consumption is expected to reach close to 450 billion cubic feet per day by 2030, close to 150 bcf/d more than today.
Given these trends, some bold investors (with a very long time horizon) could try to make a play on the broad coal space in the near future. However, with the risks still in the space, a look at either of the two coal ETFs on the market could be the way to go instead, especially if another Patriot Coal situation hits in the coming days or weeks:
Market Vectors Coal ETF (NYSEARCA:KOL)
This product from Van Eck tracks the Stowe Coal Index which is a rules-based, modified cap weighted, float adjusted index of global companies in the coal industry. Currently, the ETF consists of about 30 securities in total charging investors 59 basis points a year in fees.
The portfolio is heavily skewed towards mid caps as these securities make up about 50% of the portfolio, leaving just 30% for large cap stocks. From a country perspective, the U.S. makes up about 40% while China (20%), and Indonesia (14%) round out the top three (read Does Your Portfolio Need A Coal ETF?).
From a year-to-date performance look the fund was decimated, losing 31% since the start of January. Things haven’t been much better from the one year time frame as the fund is down about 50% in that period. However, the PE on the fund is now below 9 while P/S is below one and the dividend yield is approaching 3.8%, suggesting decent values in some of the underlying securities.
PowerShares Global Coal Portfolio (NYSEARCA:PKOL)
For another way to play the global coal market, investors have PKOL, a product that tracks the Nasdaq OMX Global Coal Index. This benchmark consists of globally traded securities of the largest firms engaged in the exploration for and mining of the potent power source. Currently, the basket consists of about 30 securities in total while charging investors 75 basis points a year in fees (see Two Energy ETFs Holding Their Ground).
Much like its counterpart, the product has a focus on mid cap securities although PKOL holds almost 40% in large caps as well. The PowerShares fund also has the U.S. as its top country from a national perspective, although China is only a few basis points behind for the number one spot, coming in at 24% of the total. Beyond these two, the top five is rounded out by Indonesia, Australia, and Canada, suggesting a decent mix between developed and emerging nations.
Performance has also been pretty bad in this fund as PKOL has lost 28% so far in 2012 while it has slumped roughly 45% over the past 52 weeks. Valuation metrics are also favorable for this fund as the PE is at 10 while the P/S is just over 1.05. Meanwhile, the dividend yield is at 3.4%, suggesting that it could be a yield destination as well.
Coal ETF Future
Clearly, both of the funds have been severely beaten down so far in 2012 and haven’t really stopped their slide as of yet. This presents investors with a potential ‘falling knife’ situation implying that this could be the bottom, or the industry could have further to fall as well (PUW: Crushing The Clean Energy ETF Competition).
Either way, both PKOL and KOL are trading at tantalizing levels given the vital nature of coal to the long term energy picture. While both could definitely fall further, one has to believe that the entire coal industry will not collapse meaning that either of these funds could be worth a closer look in the months ahead.
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