21 August 2019

Thermal coal futures provide succour to power producers

After suffering from increased thermal coal costs over the years, China’s power producers finally found some cause for cheer last September.

That was when the Zhengzhou Commodity Exchange (ZCE) launched the nation’s first thermal coal futures contracts, enabling trading of those products — at 200 metric tons per lot – with a 5 percent margin. 

Before that, Chinese electricity companies, big and small, had cried foul at market-oriented reforms in the coal sector that led to frequent price hikes.

Energy consultancy Wood Mackenzie estimates that China’s big five state-owned power producers — Guodian, Huaneng, Datang, Huadian and China Power Investment — all rely substantially on coal for the bulk of the electricity they generate; the ratio was 80 percent in 2012. But Beijing’s clampdown on illegal mining and work-safety campaigns in coal-rich Shanxi and Inner Mongolia regions have led to severe undersupply of the commodity.

Although the National Development and Reform Commission (NDRC) came up with the idea years ago to align coal price changes with electricity tariffs, the mechanism never worked promptly and power companies had to foot the extra cost themselves. They had little leeway as tariff adjustment proposals were kept under tight control and were often rejected by the government on the ground of protecting public welfare.

Now, the thermal coal futures, which have grown in scale rapidly on the back of buoyant demand, have offered some hope for the companies. Particularly so, as the annual supply contracts system — an arrangement to sell coal with a fixed price cap — was scrapped by the NDRC since 2013.

The China Securities Journal has reported that price changes in the futures’ main contracts dovetailed nicely with power companies’ expectations in the following months, enhancing the appeal of the products as good hedging instruments in the face of constant coal price fluctuations.

Coal buyers can secure the underlying asset in bulk when prices are at low levels, so as to cushion the impact of price surges later on.

Meanwhile, for smaller private power companies — many of which are unable to tap into futures – changes in the futures price can serve as a supply and demand gauge and enable the firms take better decisions when negotiating with coal suppliers.

Analysts also believe that Chinese authorities are determined to use the futures to gain more power in the pricing of the commodity globally.

China consumed almost 3 billion tons of thermal coal in 2012. The General Administration of Customs said in 2011 that the country surpassed Japan as the world’s largest coal importer. Yet the pricing on the international thermal coal market is still largely dominated by related futures traded at the New York Mercantile Exchange and the Australian Securities Exchange. As China seeks a bigger say due to its vast consumption, the indigenous futures have a leading role to play.

As of end-December last year, ZCE had handled more than 4.3 million lots of thermal coal futures transactions, worth 490 billion yuan (US$80.92 billion), the Futures Daily noted. The first prompt date, or the settlement date of those futures contracts, happened to fall on Jan. 8 this year.

– Contact the writer at [email protected]


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