I've Been Predicting This Advance in Energy for Years
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I’ve Been Predicting This Advance in Energy for Years

by | published November 29th, 2019

It almost never fails.

After spending time with colleagues and network contacts in various other parts of the world, I return with a new wrinkle on changes underway in the energy sector.

And it happened again this time.

During meetings during a week-long stay in Paris, I had a conversation with energy investment bankers and finance folks at the BNO Paribas headquarters in the close-in eastern suburbs.

Many of the subjects were anticipated:

  • Follow-ups on my London sessions late in London with many of the same participants involving the Saudi Aramco IPO,
  • Indications that outside money has begun to assemble for the next M&A cycle targeting U.S. oil/natural gas companies under debt pressure (especially in the Permian Basin of West Texas), and
  • Prospective market views on the aggregate amount of global recoverable crude oil.

However, one late addition signaled something very new was (finally) underway. It is the first stage in an advance that I have been talking about for years.

And it just might change the way we invest in energy.

The Importance of an Energy Balance

First, the overall advance.

For some time now, the energy sector has witnessed an expansion in separate and distinct types of energy sourcing. The traditional mainstays of oil, natural gas, and coal will continue to dominate in for at least the next twenty years, largely due to demand moving decidedly to Asia and the need to tap them there.

Nonetheless, we’re also likely to be seeing increases in solar, wind, biomass and biofuel, geothermal, algae, nuclear mini-reactors, tidal and wave, and even novel kinetic (generating power from the movement of objects), chemical, and magnetic approaches.

Seeking a silver bullet to wean humanity from hydrocarbons is the wrong approach because it is hardly a winner-take-all competition. Rather, the ability to provide for the rising needs worldwide needs to come from an expanding, more efficient, multi-sourced, energy balance.

The physical requirements of fashioning such a balance has been the initial challenge.

If energy availability becomes increasingly dependent upon tapping distinct and separate sources, it becomes more difficult and expensive to develop a seamless delivery network.

The first problem in fashioning and expanding balance, therefore, is to make sources interchangeable.

This is already well underway in power generation.

How to Maintain an Energy Balance

The electrical grid now regularly receives electricity produced from gas, coal, solar, wind, and geothermal. Co-fueled power plants allow for the use of distinct sources at the same facility, while for some time power has been provided at oil and gas extraction wells through the use of solar and wind.

All of this relates to the initial task of securing a balance allowing for separate sources to augment others, of moving away from a set of stand-alone energy providers.

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The other and more recent challenge lies on the financing side. The anticipated balance will really take off when contracts in one energy type can be used to finance another.

There are already some provisions for cross trading the energy resulting. For example, “spark spreads” provide the ability to trade electricity against natural gas prices, while “dark spreads” allow a similar trade between electricity and coal.

But the real advance comes when the value of one energy sources is employed to finance another.

This is no longer about trading the energy produced. Rather, the value of that production is commoditized to allow investment in a separate and unrelated project.

Paris Is Taking Energy One Step Further

Years ago, I began calling this an energy finance bridge.

In Paris for the first time, I was involved in discussions where this type of finance is being developed. Once again, the basis for the conversation had come from a meeting the previous month in London.

There, as I noted in an Oil & Energy Investor at the time (Read it right here), the subject was major solar projects for Morocco with an impact on all of North Africa and beyond.

In Paris, it has been taken one major step further.

The Paris discussion focused on using the proceeds of crude oil futures contracts to finance the solar projects. If this moves forward, a significant straddling would be underway.

Oil futures contracts set pricing for deliveries at some later date – from next month to years away. These contracts are what provide the actual oil prices flashed on the TV screen – West Texas Intermediate (WTI) and Brent are dollar-denominated per barrel oil prices used to settle futures contracts written in New York and London, respectively.

On any given day, there were far more of these “paper” barrels than there are genuine “wet” barrels” of oil in physical trade. While there are producers and end users (mostly refineries) who will enter into futures contracts to hedge against price changes in the actual exchanges of oil, most futures are entered into to make an investment profit. The barrels the contracts represent will be canceled out (arbitraged) before the underlying contract expires.

It is these “for investment profit” contracts that are now of interest following a new wrinkle emerging in the Paris discussions. There, proceeds from oil futures contracts may be used to finance solar projects in Africa.

This is an energy finance bridge of a decidedly different type. If it becomes more frequently used, fiduciary groups will be set up to coordinate, and probably to cut derivative paper off of them.

As soon as a secondary market develops to trade the finance, average retail investors will have a back door into the process.

And energy investment prospects will be revised again.

The future of energy is looking to be very interesting indeed.

Sincerely,


Kent

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  1. December 3rd, 2019 at 04:14 | #1

    Imi plac foarte mult postarile dumneavoastra,si in special limbajul colorat pe care il utilizati,care este plin de imaginatie!Multumesc mult!

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