The impact of rising coal prices
Coal is one of the most important primary fossil fuels and is regarded as black gold. It is a necessary evil you cannot avoid, despite being the chief pollutant, and it contributes to more than two-third of source of energy in India. The article discusses about steam coal or thermal coal only and has left out coking coal/PCI coal, which are used in sponge iron/steel industries.
Chiefly, coal is classified into four categories based on the carbon content: \Anthracite contains 80-95 per cent of carbon with very high calorific value of heat value,\bituminous coal contains 55-80 per cent of carbon content with medium to high calorific heat value,lignite, which is brown in colour, contains 40-55 per cent of carbon content and low calorific heat value, and peat has less than 40 per cent carbon content and hence very low heat value. Anthracite is available in very small quantities in Jammu and Kashmir. However, India has fifth largest coal reserves in the world of 280 billion tonnes of steam coal besides 44 billion tonnes of lignite as per the Geological survey of India as on April 1, 2017 in proved, indicated and inferred reserves. In terms of production, India stands as the fourth highest coal producing country in the world behind China, USA and Australia.
Australian production depends primarily on exports while for India, it is mainly for domestic consumption. As the global markets for coal are either stagnated or shrinking, Australian coal exports will stagnate or shrink while Indian domestic market being robust and growing at healthy rate, India will soon replace Australia as the third largest producer of coal.
Domestic coal production & despatch trends
Coal mining in India began in 1774 with East India Company indulging in commercial exploitation but the demand for coal started picking up with introduction of steam locomotives in the year 1853. Coal production rose to 33 MT by the beginning of first five-year plan. The National Coal Development Corporation was established in the year 1956 with the aim of increasing coal production in a systematic manner. Coal mines were nationalised on May 1, 1973 with the introduction of Coal Mines (Nationalisation) Act 1973, which is repealed by the current government on January 8, 2018 allowing private players in cement, steel, power and aluminium to mine coal for captive use in their plants.
Estimated production in 2018-19 is expected to clock in 7 per cent growth to touch 737 MT from 688 MT in the previous financial year.
Currently, only 65 per cent of coal is evacuated by rail. In order to achieve the ambitious target of one billion tonne target set by the government, development of railway lines in some of the mine clusters to support coal evacuation of another 350 million per annum is essential. Fourteen critical rail projects, which will impact coal evacuation, are being monitored at the PMO level for early completion. One of the projects-Jharsuguda-Barpalli-Sardega lineùhas been commissioned a few months ago and another Tori-Shivpuri line has been commissioned partially, and the balance is to be commissioned anytime soon. These two lines can potentially enhance the coal evacuation by 100 MT in Odisha and Jharkhand.
Progress in other rail projects has been limited and pose a great challenge for the aspirational goal of achieving 1 BT coal production.
E-auction is a transparent system for procurement of coal by any company that do not have linkage or have unmet demand from the linkage. It provides an equal opportunity to all customers for procuring coal of their choice of source, grade, size/mode. Any company can participate in e-auction directly if its annual requirement is over 4,200 tonne. Otherwise it has to procure coal from a State-nominated agency at a price not more than 105 per cent of the base price purchased by the agency. Any buyer can procure coal from spot e-auction but only actual consumer can participate in forward e-auction.
CIL earmarks 10 per cent of its production for e-auction and the service providers for e-auction are MJunction and MSTC. E-auction has proved to be a mutually beneficial option for both CIL and the end users.
Premia paid for e-auction coal has gone through the roof as CIL has offered reduced quantity of 69.19 MT in April 2018 - February 2019 as against 91.79 MT offered in during the same period in the last financial year.
Spot auction premia have reached 102 per cent in September 2018 surpassing the level of 95 per cent reached during October 2017 due to tightness in domestic coal availability coupled with healthy demand from the coal consuming sectors as per ICRA.
Thermal coal imports
Domestic coal supply is inadequate compared to demand from coal consuming industries due to strong power demand, lower hydropower generation in the current financial year as well as healthy growth in production in core sectors like cement and aluminium.
Import of coal has been on the rising trend since domestic coal production has not been able to keep pace with the demand. After some spike in 2014-15, demand has corrected significantly during 2015 through 2017, due to Government's directive to central and state government power plants to stop coal imports. Imports are on the growth path again since the unmet demand could not be met from domestic coal due to infrastructural bottlenecks.
It can be observed from the above that thermal coal is primarily imported from Indonesia, South Africa, USA and Australia. Indonesia is the dominant player in imported coal market, primarily because most of the IPPs in India are designed based on low rank Indonesia coal.
One significant development in March 2019 imports was that of China imports into India of 1.57 MT. It has to be seen whether it is a blip or China is going to be a long-term player in the Indian market. Imports have been increasing significantly from Indonesia. On the other hand, there is a decline in imports from USA since demand for thermal coal from domestic industry in the US is robust and fetch higher realisation. Mozambique imports are purely on opportunistic basis, price alone being the criteria, and it is by and large an insignificant player because Mozambique coal does not suit most of the IPPs technically.
Factors that impact costs of importers:
Forex conversion rates (Dollar to INR)
Imported coal prices have been on the declining trend for the last three months and have come off almost $25 since January and about $35 from the peak levels in July/August 2018. Chinese restrictions in the form of stringent customs clearances for Australian coal and low demand in Europe have contributed to the tremendous fall in the prices across.
Besides, China always plays the role of a balancing factor in imported coal prices. As per some of the latest reports, China is ramping up production and may become self sufficient in coal requirement like they did in the year 2015. This will affect exports of high ash 5500 NAR coal out of Australia since most of this coal is procured by China. Rupee had roller coaster ride throughout the year climbing up to 74.3585 on October 10, 2018, from 65.2497 on April 16, 2018, an increase of 13.92 per cent before becoming strong subsequently. Rupee depreciation at 69.4122 as on April 15, 2019 is 6.34 per cent in the last one year.
Global Price Forecast
Notwithstanding the forecasts, prices are highly volatile due to various reasons like demand from the major markets and weather/infrastructure related problems of the exporting country besides variation in prices of alternative energy resources or renewable energy outputs. China continues to play a dominating role in determining the global prices by ramping up production to be self sufficient, at will.
Arbitrage advantages: Because of the above factors, the prices of coal from different countries become cheaper compared to others at different times. The window of opportunity is generally very short and an astute company leverages the arbitrage advantage effectively for cost optimisation. Arbitrage advantage can be taken only if the end Users with flexibility to burn any type of coal including pet coke and keeping track of global coal prices can avail such opportunities and enjoy cost advantage over others.
Hedging options: Companies, which depend upon imported coal, can insulate themselves against coal price volatility partly with short term or long term hedging options. Long term hedging options can be used keeping domestic price parity or price attractiveness. Indexes available for hedging freely are API4 (RSA coal), API2 (Colombian coal) and NewC (Australian coal); all basis 6000 NAR. Other indexes which do not have high liquidity but possible are ICI4 or M42 (Indonesia 4200 GAR).
Tools available for hedging:
-Call options (capping the price at top)
-Put options (floor)
-Call and put options (cap and floor) including zero cost collar
-Other exotic options
MCX in India is working out details to register with SEBI for creating a trading platform for hedging of 4200 GAR coal price basis CFR Krishnapatnam in INR on cash settlement basis with a window of three months hedging. This hedging option should be [hopefully] available by the end of the calendar year.
About the author
ES Reddy has an extensive pan India experience in leading cement, float glass and imported coal industries in marketing and logistics. Currently, he is working as a Director with UniCoal Resources Pvt Ltd, which works as independent consultants in the field of supply, hedging and financing of imported coal. He can be reached at email@example.com