Analysts expecting higher bond default rates for U.S. coal sector

The oracles of Wall Street are foretelling the coal industry's bond default rate could surpass 50 percent if the country's two largest coal companies file for bankruptcy soon.

The crashing waves of coal companies filing for bankruptcy has caused the broader mining sector default rate to rise to double digits, according to a number of analyses released in recent weeks.

The default rate could go higher -- how much higher is anyone's guess at the moment -- if Peabody Energy Corp. file for chapter 11 protection.

"Both Arch and Peabody have a reasonable likelihood of default with an Arch default more likely. If both large coal producers file for bankruptcy, Fitch's coal industry trailing 12-month bond default rate (based on dollar volume) jumps to 55 percent from 28 percent while propelling the broader metals/mining sector 12-month bond rate to 21 percent from 10 percent, narrowly edging the prior high set in 2002. The 12-month bond rate's metals/mining leveraged loan default rate would also climb to 25 percent from 11 percent should these two defaults materialize," according to an analysis by Fitch, a financial information service.

Fitch states the spate of coal default has resulted in unsustainably high debt leverages from past purchases amid lowering coal prices. The pricing and defaults are driven by over-supply of steam and metallurgical coal, new regulations and competition from low-priced natural gas for electrical generation.

Arch Coal, the country's second-largest coal company, is running out of lifelines. Last week a New York judge ruled in favor of senior creditors who objected to the company's proposed debt swap.

Arch Coal is fighting to convince creditors to swap their debt in exchanges designed to improve the company's balance sheet as the coal market faces continued weakness.

The debt swap was an effort by the St. Louis-based company to reduce its $5 billion debt load, including $3.2 billion in bond debt, by as much as $990 million and lower its annual interest expense by $74 million. Bondholders had a deadline of today to accept.

Analysts predict if bondholders vote against the swap, it could mean financial headaches for Arch.

A vote "no" "certainly increases the likelihood of (Arch) having to do a wide scope restructuring, which, in other words, would be bankruptcy," Chiza Vitta, a credit analyst at Standards and Poor's, told the Billings Gazette recently.

However, a majority of lenders holding more than $1 billion of Arch Coal's $1.9 billion in senior loan debt have directed their agent not to execute documents necessary to complete the deal, an action that will prevent the exchange from moving forward. The lenders say the deal benefits bondholders to the detriment of senior lenders and was negotiated without their input.

It is a "near certainty" Arch will land in bankruptcy if the debt exchange offer doesn't go through, one creditor said in court papers, adding during a hearing last month that the company, GSO Special Situations, has retained restructuring attorneys.

"The company's secured lenders are trying to prevent the exchange and the transaction remains in limbo. Without an exchange, a bankruptcy filing or default triggered by a missed interest payment is likely before year end," in Fitch's view.

Diving coal prices have already sent mining companies Alpha Natural Resources Inc. into chapter 11. Overall, between 2009 and 2014, while the Dow Jones Industrial Average rose 69 percent, the Coal Sector Index lost 76 percent of its value.

Peabody Energy's outlook, according to Fitch, is a bit brighter "given its lack of near term maturities and sufficient liquidity to sustain operations for the time being, but there is substantial credit risk."

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