By Jeff Rubin
Standing side by side in Ottawa last month, the Prime Ministers of Canada and Australia jointly blasted carbon taxes as environmentally ineffective job killers. As outspoken defenders of a carbon economy, the pair, it they cared to look, would find themselves as part of a club with an ever-dwindling membership. Neither, it is worth noting, appears concerned.
Like his Canadian comrade in arms, Australia’s Tony Abbott has visions of his country becoming an energy superpower. Unlike Prime Minister Stephen Harper’s laser-like focus on Alberta’s oil sands, though, Abbott’s fixation is coal. It’s the country’s second-largest export. It’s also the dirtiest of the fossil fuels, an inconvenient truth that doesn’t appear to bother Abbott. Australia is the world’s fourth largest coal producer, trailing only China, the United States, and India.
Australia recently took steps to make its fledgling carbon tax a thing of the past, a move designed to remove the shackles from its badly slumping coal industry. Introduced by the previous government two years ago, the tax was abolished by the Australian senate earlier this month. If nothing else, repealing the tax will further isolate Australia internationally, coming only months before United Nations Secretary General Ban Ki-Moon will convene a climate change summit where he’ll urge countries to sign on to a plan to reduce global emissions. Australia, like Canada, would have a lot of work to do under any agreement, given their respective places among the world’s leading per-capita carbon emitters.
Much like the business case for Canadian bitumen, the appeal of Australia’s vast coal reserves lies in the country’s close proximity to a huge market. Chinese electricity demand is to Australian coal miners, what the American motorist is to Canadian oil producers. In both cases, the appetite for what’s on offer will soon by waning. The resulting effect on commodity prices will be profound.
A slowdown in the growth of China’s coal demand, due to more tepid economic growth and fuel substitution, has sent the prices that Australia fetches for its thermal coal plunging from US$125 a tonne in early 2012 to around US$70 a tonne. Prior to the recession in 2008, thermal coal prices peaked at US$190 a tonne. At today’s prices, Australia’s coal mines, as well as those around the world, are losing money.
The largest US coal producer, for one, lost more than US$500 million last year due to falling prices. Since 2011, Peabody Energy has watched nearly 80 percent of its market capitalization go up in smoke. In May, Standard & Poor’s downgraded its rating to BB-minus, three notches below investment grade.
The outlook for coal doesn’t look much better to investors than it does to credit ratings agencies. In May, the trustees of Stanford University’s $19-billion endowment fund announced they would no longer invest in coal stocks. Social responsibility was cited as the reason for the disinvestment decision, but given the recent performance of coal stocks they could have just as easily cited the fund’s financial duty.
Earlier this month, Japanese trading houses Itochu and Sumitomo announced that they’re selling their combined 45 percent interest in a pair of big Australian coal mines, Newlands and Collinsville. With coal prices suffering and losses mounting, more divestitures in the sector are anticipated. According to S&P, coal is poised to see a shrinking share of the world’s power generation market, which could lead to some coal reserves becoming stranded assets.
Investors in Canadian oil stocks would do well to take a long look at the parallels between the oil sands and Australia’s coal industry. Although the leaders of both countries are all too ready to pontificate upon the perils of carbon taxes, investors shouldn’t find themselves getting distracted by any stump speeches. We know that a Harper government will continue to shield the industry from a national carbon tax, but the issue is secondary in nature, at best.
Australian coal producers are only marginally more attractive without the $24-a-tonne carbon tax they used to pay. What’s really killing earnings and standing in the way of developing new coal reserves are plunging commodity prices that have left many producers stranded with high cost structures that are no longer commercially viable.
It’s falling coal prices not token carbon taxes that will snuff out Prime Minister Abbott’s coal-fired dreams of becoming an energy superpower. In Canada, Prime Minister Harper’s oil-based ambitions could well have the same fate in store.
Jeff Rubin was the Chief Economist at CIBC World Markets for 20 years, and is one of the world’s most sought-after energy experts.