More Details from My Windsor Briefing
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More Details from My Windsor Briefing

by | published February 28th, 2019

Greetings from Windsor Castle!

Marina and I have just arrived in England, where we met some of my team from Baltimore, and preparations for the Windsor Energy Consultation have gone into high gear.

In particular, I’ve been preparing my presentation, which will be given to the assembled experts and dignitaries.

Now, for the past two Oil & Energy Investor issues, I have given you a sneak peek at some of my briefing here at the Castle.

And in today’s column, I will focus upon the broader investment implications I am presenting, once again using some of the slides from my presentation.

Let’s begin…

The Center of Energy Demand is Asia

First of all, we continue to witness a decided shift to Asia in the energy demand center. This is ongoing and should extend at least through 2035-2040.

However, the move is a double-edged sword.

On the one hand, it opens a wide range of new investment targets and plays. On the other, the demand differential, the regional imbalance, is so great – that is, the rising demand is so strong – that it requires a continuing Asian regional use of hydrocarbons and the attendant adverse environmental impact.

That is especially the case with coal, likely to remain the dominant source of electricity production for the next generation in Asia.

Second, despite this, there is a rebalancing taking place among primary energy sources.

With every assessment concluding that crude oil, natural gas, and coal will remain the dominant three at least until 2035, renewables will nonetheless comprise the single largest advance moving forward.

However, there is a ceiling emerging in how fast solar and wind can continue growing…

Will Renewable Energy Growth Hit a Ceiling?

Solar and wind are not continuous providers of electricity.

As such, the “intermittent” nature of such renewables obliges that traditional “backup” generation capacity remains on line. Almost paradoxically, the more solar and wind added to the network, the more conventional sourcing needs to remain.

The remarkable expansion noted in the chart below is likely to flatten out because of the intermittent nature of power produced, the cost per unit of the power generated, and the changing nature of grid parity.

The “holy grail” to break this cycle will be major advances in large-scale battery technology and longer-term storage capability.

Some developments are in evidence, but the genuine breakthroughs have not yet taken place.

The need to retain alternative backup, combined with the operational costs of plants and the application or phasing out of publicly-funded stimulus projects, rebates, incentives, credits, subsidies and the like, have distorted estimates of genuine costs per unit of power generated.

In some cases – Germany, for example – this matrix has resulted in significant increases in consumer prices.

Finally, such government involvement and requirements that excess backup be made available, have obliged a revision in the meaning of grid parity…

The Shift in Grid Parity

Grid parity refers to renewables like solar and wind reaching a generating cost equivalency to conventional fuels.

Such parity had been considered evidence that the age of renewables in electricity production had finally arrived. However, revised calculations are now casting doubt on the actual cost of alternative energy sourcing, with additional concern associated with rising expenditures for infrastructure and delivery.

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Some decisions are now being made with ecofriendly, carbon reduction, sustainable, and neutral impact parameters incorporated into planning. In such cases, additional generating costs are tolerated.

Yet for much of the global energy funding community, the bottom-line return on investment (ROI) remains the dominant factor, and that may be the most significant near-term cap of all.

In many parts of the world, it is simply cheaper to use traditional sources. The net price of environmental impact is recognized, but the crushing need for more electricity is simply too strong.

And third, I am estimating an overall year-on-year increase in energy investment worldwide.

My current figures put the total at about $1.92 trillion for 2019, an increase of some 6% year-on-year (y-o-y) from 2018.

Yet that is hardly spread evenly over all investment sources.

Where Institutional Investment Is Heading

As I noted in the last Oil & Energy Investor column, I track six separate components of the investment mix: Sovereign Wealth Funds (SWFs); State-Owned Enterprises; Institutional; Private Direct Investment (PDI); CapEx; and Multilateral Development Banks.

Virtually all the aggregate is contained in these categories – although it is sometimes difficult to decide where to place funding that straddles the distinctions.

Overall, the strongest increase with be in CapEx, largely funded through proceeds from operations and sales. Globally, I am seeing this as coming in up 12% y-o-y. However, the rise in the U.S. market will be greater than 16%.

This is tempered when one recalls that there was an at least $1.2 trillion shortfall in 2014-2016 during the dive in crude oil prices. Any forward depiction of CapEx, such as the following slides, must bear this in mind.

Institutional investment is likely to see an improvement of 8%. PDI should continue to post gains; the estimate is about 21% y-o-y for raw – i.e., non-leveraged – totals.

PDI includes individual moves by high net worth investors, privately managed funds, family trusts, limited access holdings, special investment vehicles/structured investment vehicles (SIVs/SIVs), asset holding vehicles (AHVs), certain broker dealer venues, among others.

PDI is the most rapidly rising source over the past four years. It is also a segment in which I have had personal advising/consulting experience with some well-healed players.

If there is one development here that is the most interesting, it is unquestionably the preferred targets of this investment. PDI preference overwhelmingly (>75%) is found in renewable and carbon/environmentally-sensitive investments

Yet I anticipate there is a leveling off in the upward curve in PDI underway.

This is in large measure a result of the rising amount of funding going into a “multilayered” approach. More of the investment is directed to other than only a project or company. This becomes, as represented by the following slide, a move to diversify risk within the same investment package.

Now, I have two final thoughts in this PDI conversation.

Two More Observations

The multifaceted approach makes “pigeonholing” investment into broader categories more difficult. More of this funding is moving someplace other than into traditional objects.

Another matter to keep in mind is the actual amount of money available.

While I estimate there will be at least $170 billion in the 2019 pipeline, that total is effectively tripled through leveraging.

There remain other parts of my Winsor briefing yet to discuss. But let me end this installment with two general observations about how the dimensions of energy investment are going to play out in the near-term.

The International Energy Agency (IEA) in its World Energy Outlook 2018 brings to mind that more than 70% of all global energy investment decisions remain government-driven.

The funding target is controlled, prioritized, or determined by a central administration somewhere. Often, tax and other incentives are provided to sweeten the enticement.

Second, for perhaps the next three decades, much more than 70% of the most attractive energy investment opportunities will be geographically someplace place other than North America or Western Europe.

Simply put, there is genuinely a global market barreling down on us.

And it should prove to make things very interesting moving forward.

Sincerely,


Kent

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