Fitch Ratings analysts said Tuesday they expect natural gas prices to be high over the next few years, averaging $6.25/MMBtu this year and rising by an average 0.6% annually in real terms before stabilizing in 2010. In its spring 2005 forecast on the U.S. wholesale power market, analysts are forecasting gas prices to range from a high of $7.80/MMBtu to $5.50/MMBtu in 2009, then remain in the $5.50 area.

Fitch said the gas price environment is “dominating the power price outlook,” and in some cases, coal-fired generation has become an “attractive” alternative. However, because coal prices also have risen, switching “has had a limited effect on utility profitability, as most utilities source their coal through long-term contracts.” Many of these long-term contracts are expected to expire or be repriced over the next one to two years, however, “potentially exposing the utilities to higher coal spot prices and medium- to long-term margin pressure.”

Merchant coal plants currently are benefiting from high gas prices, but coal does not have an “insurmountable cost advantage,” Fitch said. Owners of less efficient coal plants also are profiting from high market-clearing prices, but if gas prices fall to Fitch’s base case level, “less efficient units will be at a competitive disadvantage.”

The cost of compliance with environmental standards at coal units is another factor in switching to coal use, according to the report. “Once the cost of emission allowances is considered, efficient gas-fired plants can displace coal-fired plants in the dispatch stack, depending on the cost of gas. Based on these assumptions, an efficient coal plant would have a cost advantage as long as gas prices remain above $4.90/MMBtu,” or above $6.60 for an inefficient coal plant.

Fitch’s updated report is available at www.fitchratings.com.

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