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Coal: In Support of Arch

10/10/2014 8:00 am EST


Nick Hodge

Founder and President, Outsider Club

We're betting that coal isn't dead and that prices will rise sooner than anyone thinks; and my view that shale gas is not even close to a panacea plays nicely into that, explains Nick Hodge, editor of Early Advantage.

Arch Coal (ACI) has been sliding in price and recently putting in a new yearly low. It's my view, that this is still a blood-in-the-streets buying opportunity, though it may take years for the streets to be cleaned up.

No specific event that I can find spurred the selloff. But the biggest culprit is likely the news that short interest in the stock increased to 18% of the float.

The shorts likely came after the last earnings report on July 29—and on the following news of increased EPA regulations and the resurgence of Black Lung in Appalachia—which compounded the negativity.

Rail woes in the Powder River Basin and weak prices for metallurgical (met) coal haven't helped. Further risks include met coal prices not rebounding as anticipated globally and the continued decline of thermal coal demand here at home.

Still, the analyst take has a bullish consensus with the average price target from Zacks, Howard Weil, Citigroup, and others at $4.20, more than 100% higher than it currently trades.

I remain a contrarian bull as well. Arch still has $1.25 billion in liquidity, no maturities until 2018, and—based on the last earnings report—could limit the burn rate enough to have positive cash flow in the next two or three years.

The Asian market is expected to remain robust, especially in India. And Chinese steel output is up 5% from last year, which has stabilized met coal prices at around $120 per tonne since March.

Thermal coal demand should remain constant here in the US and Arch's reserves in the Powder River and Illinois basins are competitive in the current market.

All of that said, it's not the current market we're interested in. Coal is expected to be the most widely-used fuel in the world in 2030. A 52-week low in Arch in 2014 won't change that.

Plus, the boneheaded decision to export natural gas from the US means prices won't stay low enough to compete with coal. And if gas prices do stay low enough to compete with coal, those prices will be too low for gas producers to produce anyway.

 I remain long-term bullish on both coal in general and Arch Coal specifically. This is a contrarian play. This is a risk-laden play. And, most importantly, it's a long-term play…years long.

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