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Tickers in this Article: BTU, MEE, YZC, ACI, SI, CX
If you asked me a week ago what would likely be this past week's biggest gainers, coal stocks probably wouldn't have been one of my top three picks. Sure enough though, Peabody Energy (NYSE:BTU) and Massey Energy (NYSE:MEE) led the S&P 1500 Coal & Consumable Fuel Index higher by about 15% - tops among all industries. However, if you were asking me today what the next year's biggest gainers will be, I'd be very surprised if coal wasn't one of them.

That's a somewhat anti-climactic answer to the question "can coal stocks continue to rally?", but there are some very specific reasons the proverbial planets are lining up to make the coal industry's stocks one of the monster winners for 2009.

IN PICTURES: Eight Ways To Survive A Market Downturn

First Things First
Yes, coal is an economic recovery play. I'm not going to beat that horse to any great length but in summary, Goldman Sachs upgraded the sector a few days prior and lit a fire under Yanzhou Coal Mining (NYSE:YZC), Peabody Energy and Arch Coal (NYSE:ACI). All of them are up nicely since then. The S&P 1500 Coal Index gained 41%, which is much stronger than the broad market's 20% run-up since mid-May.

Stocks can't rally forever just fueled by momentum though. Eventually, these companies will need to justify their stock's gains. If the recovery mentioned in May is indeed for real, then those clues should be popping up by now, right? Here's what suggests coal stocks are gearing up to be 2010's dark horses.

Working in Their Favor
The S&P 1500 Coal Index has gained 87% since the March low, versus the 58% gain from the broad S&P 1500 Market Index. Normally, I'd be scaling out of the market's biggest winners, knowing that kind of disparity doesn't last. In this case though, it's stunning that these stocks are still - on average - about 60% below their 2008 peak prices. (The market's only about 31% below its 2007 peak highs.)

In other words, an excessively oversold sector represents an excessively large recovery opportunity.

A Sustainable Rise In Price
Coal prices are finally rising. Spot prices for a short ton of Central Appalachia coal are now hovering around $54, up from the low $52 area we saw for the better part of Q3, and considerably better than the multi-month low around $43 we saw in May. Think "sustainable"- one of the problems with the run-up to the $140s during Q3 of last year. Nothing will send painfully high prices sharply lower in a hurry than painfully high prices.

Just as higher oil prices mean better margins for oil companies, higher coal prices can mean better margins for coal companies. As coal prices modestly rise, so too should bottom lines. The advantage coal companies have over oil companies is that coal prices aren't subject to the same kind or degree of speculation that oil prices are, which implies the upturn in spot coal rates is legitimate. (For further reading, check out Peak Oil: What To Do When The Wells Run Dry.)

Coal Is Here To Stay
Despite the toxic mess, coal usage is expected to grow by 55% over the next fifteen years. Barron's made that forecast a few days ago, underscoring their optimism regarding Consol and Peabody. Though that's more of an uber-long-term boost for these stocks, it doesn't hurt them in the near-term either.

The clean coal theme may have been a tough idea to get behind just a few years ago, but the technology has vastly improved thanks to a handful of publicly-traded names. For instance, Siemens AG (NYSE:SI) has almost perfected the integrated gasification cycle, and the DOE recently decided Cemex Inc, (NYSE:CX) was close to perfecting a carbon capture/sequestration process (both could be long-term indirect coal plays). If either or both technologies prove effective, demand for coal could further improve.

The Bottom Line
Clearly there's no such thing as a perfect investment, however, there aren't many other industries that have as much going for them. (For further reading, check out Forget Green Stocks, "Green" Will Do.)

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