BP’s Statistical Review of World Energy offers many interesting and sometimes surprising insights about global energy. Start with our neighbors to the north. In a poll last year, two thirds of Canadians believed climate change is as serious an issue as Covid. Canada has a carbon tax, and lowering emissions has long been official government policy. However, adjusted for population Canada is an energy hog, consuming 380 Gigajoules (GJ) per person, compared with the U.S. at 288 GJ. Canada has the highest use of any OECD (i.e. rich) country, and two times the OCED average.

Moreover, 10.1% of Canada’s primary energy comes from renewables (including hydro), while the equivalent U.S. figure is 12.2%.

Germany’s per capita energy consumption is 157 GJ, less than half Canada’s. While Germany’s commitment to renewables has caused many problems (see Renewables: More Capacity, Less Utilization), using less energy lowers emissions.

Canada is better than the U.S. in coal consumption though (5.3% of primary energy production vs 11.3%), which explains why their per capita emissions are just below ours. Most Canadians would probably assume their country is a global leader on climate change, but this isn’t supported by the numbers.

Phasing out coal-burning power plants is a simple and direct way for most countries to reduce emissions. Replacing coal with natural gas has been a big source of America’s reduced emissions in recent years. U.S. coal consumption has been declining at over 5% p.a. for the past decade, faster than the OECD average of 3% (Canada has reduced coal consumption at a 6% CAGR). However, non-OECD countries have increased coal consumption at a 2% CAGR over this time, which is why global coal consumption unfortunately continues to increase.

Herein lies the conundrum for the simplistic world view of climate extremists. Developed countries are using less of the dirtiest fuel, while emerging countries are using more. The rich world wants to save the planet, while the emerging one wants rich world living standards. These conflicting goals are clearly visible in the numbers on global energy consumption.

Coal is cheap, easily handled and ubiquitous. Because coal is found in so many parts of the world, coal trade is a much smaller portion of global consumption than for other fuels such as crude oil. OECD countries could decide to stop exporting coal, but they won’t. Australia exports 86% of its production.  China’s domestic production (79.8 Exajoules) approximately equals its consumption (81.7 Exajoules).

Australia possesses 14% of the world’s coal reserves. China has 13%. Should Australia leave most of theirs in the ground, slashing exports and pushing up prices on the dirtiest fossil fuel, thereby promoting switching to cleaner alternatives such as natural gas? Should China, consumer of half the world’s coal, leave theirs in the ground? The U.S. possesses 23% of the world’s coal, and will burn more of it to generate power this year and next than in 2020, according to the Energy Information Administration (see Emissions To Rise Under Democrats). Coal’s continued prevalence around the world mocks all the media hype over solar panels and windmills.

The U.S. is the world’s biggest producer of natural gas, with around a 23% share. The big opportunity is for Joe Biden to send John Kerry, Climate Czar, around the world promoting this as a far better choice than coal.

Less appreciated is our dominance in natural gas liquids (mostly ethane and propane) where we produce 40% of global output. Volumes grew at 9% p.a. over the past decade. Much of this is used by the petrochemical industry as feedstock for plastics. Propane exports are now above 1.2 million barrels per day, up over 10X in the past decade.

Climate change exposes many misalignments of interests. Developed countries are pursuing lower emissions, while developing countries like China and India favor economic growth to raise living standards, which is why their emissions are rising and offsetting reductions elsewhere. But reserves of crude oil lie predominantly in non-OECD countries too.

We’re told that we have a moral obligation to take the lead in reducing emissions, because poorer countries are less able to afford flood control and other mitigants. But 85% of the world’s proved oil reserves are in non-OECD countries. How much of this will be left in the ground? OPEC has 70% of the world’s crude reserves. Providing this oil to the rest of the world will create wealth that can be invested to protect against the effects of global warming. That may even be in some countries’ best interests.

If the U.S. trims crude consumption (which isn’t on the horizon) and imports less from Nigeria, a willing seller, are we really helping them? More broadly, the world’s poorest continent, Africa, produces 8% of the world’s oil. Environmental extremists haven’t yet reconciled a desire to reduce global demand for their output with those countries’ efforts to raise living standards by selling oil.

Misalignments of interest are everywhere. The rich world wants lower emissions, while emerging countries want rich world living standards, which require more energy. Rich countries seek to use less oil, which is predominantly owned and sold by poorer countries. OECD countries burn 20% of the world’s coal, leaving non-OECD, supposedly more vulnerable to climate change because they’re poorer, burning the other 80%. It should be no surprise the biggest contributors to reduced emissions have been economic: coal-to-gas switching because of cost, and the Covid recession.

Interestingly, Bloomberg’ NEF, which writes about the energy transition, expects electric vehicles to represent only 8% of the global auto fleet by 2030, with internal combustion engine sales still growing at 0.8% p.a. over the next decade. Rising incomes in developing countries will drive auto sales growth.

As long as environmental extremists reject nuclear power, you can be assured their concern for the world’s future isn’t genuine. Nuclear is clean, cheap, and the record shows proportionately safer than any other form of energy. If the extremists really believed the world has ten years left before irreversible catastrophe, they’d be embracing every solution including this one.

Japan’s consumption of nuclear power dropped to zero in 2014 following the 2011 Fukushima disaster. But they have pragmatically been restarting nuclear plants since then. Following power shortages this winter, Japan’s energy minister said nuclear was crucial to the country’s emission goals.

Solar panels, windmills and batteries will demand more of certain key minerals, of which U.S. reserves are negligible. We have no cobalt (over half is in Congo); 4% of the world’s lithium (Chile has over half) and 1% of the planet’s rare earth metal reserves (China has 35%). Having reached energy independence, policymakers will need to consider the geopolitical consequences of becoming dependent once more on other countries for key energy inputs.

Recent cold weather in the U.S. has once again exposed the fickle nature of renewable power. Its intermittency means its often available but not always when you need it most. Texas expects to see record electricity demand over the President’s Day weekend. However, the chill has reduced windmills’ share of power generation from 42% to 8%, as ice has impeded their operations. Natural gas, always there to compensate for weather-related unreliability, tripled its contribution to Texans’ electricity needs.

North Asian LNG prices exceeded $35 per Million BTUs (MMBTU) during a cold snap in  January (see Asia Leads Natural Gas Demand). On Friday, natural gas on the Oklahoma Gas Transmission line (OGT) touched $600 per MMBTU intra-day on Friday, settling at over $360. The Henry Hub benchmark closed at $2.91. Few fans of renewables will factor this cost in when promoting how “cheap” wind power is.

The world is using more of every kind of energy. China’s electricity consumption grew at 7% p.a. over the past decade. An energy transition that makes the most of natural gas is one that’s likely to succeed. A fund backed by Bill Gates recently backed start-up C-Zero, which aims to split natural gas (methane) into hydrogen, which it’ll burn, and solid carbon which it will bury. Since combusted hydrogen only produces heat and water, it’s zero-emission energy. There are many R&D efforts to use natural gas cleanly, often by capturing the emissions before they enter the atmosphere. The U.S. and our pipeline sector are well positioned for it.

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.

Last week the U.S. Energy Information Administration (EIA) released their 2021 Annual Energy Outlook (AEO). It is produced by their Bipartisan Policy Center, and presidential elections aren’t supposed to affect their work. It isn’t a policy document but is intended to make forecasts based on current policies and known technology.

Past AEOs are taken down from their website, which is a pity because it can be fun comparing current forecasts with prior ones. Fortunately, we save it every year, and the comparisons are interesting.

Our initial thought in watching the webinar that launched their new release was that they see a very different energy future than the new Administration, one that still relies primarily on fossil fuels. Joe Biden ran on a platform of getting the U.S. to net zero greenhouse gas emissions by 2050. The AEO projects a modest drop over the next decade before growth resumes. Energy-related CO2 emissions are projected to remain below 5 gigatons by 2050, roughly unchanged over the next three decades but clearly not zero. Nonetheless, it’s a more optimistic than the 2016 AEO. Since then, switching from coal to natural gas for power generation and the Covid-recession have brought emissions down from above 5 gigatons back then. Changed policies and new technologies will be needed to alter that projection.

The 2021 AEO projects faster growth in renewables than five years ago, but oil and gas consumption still dominate. In fact, growth in natural gas consumption is expected to track renewables closely, with both gaining market share. Coal has seen a big downward revision since 2016 but will continue to provide more energy than nuclear. If we can’t flip that around over three decades, it will represent a significant missed opportunity.

One controversial element of the 2021 AEO concerns consumption of petroleum and other liquids. By contrast with AEO 2016, this is now expected to grow, in apparent defiance of everything the Administration and many others have to say. The explanation is greater industrial use of liquified petroleum gas (LPG) which is mostly propane and butane. The U.S. produces 40% of the world’s Natural Gas Liquids (NGLs), almost three times the next biggest (Saudi Arabia, at 14%). NGLs, which include propane and butane and are usually separated from “wet” gas, are one of the Shale Revolution’s big successes. In recent years, increasing domestic production has spurred investment in domestic petrochemical facilities and driven greater exports.

But even gasoline consumption is expected to remain close to current levels over the next thirty years. That it won’t grow reflects increased electric vehicle penetration as well as continuing efficiencies in traditional internal combustion engines. GM recently announced plans to only sell zero-emission cars and trucks by 2035. The incongruity between AEO 2021 and GM’s investment plans lies in policy expectations. GM is preparing for a world of government-imposed constraints on gas-powered automobiles, whereas the AEO 2021 Reference Case assumes unchanged policies. In 30 years we can look back and see which one of these was way off

The other big change is in natural gas exports. In 2016 the EIA expected the U.S. to be a net importer of natural gas, while five years later that has reversed. An interesting chart which is more relevant today shows high oil prices stimulating increased natural gas production, because of substitution. The continued decline in capex for new oil production across the industry makes supply-constrained higher oil prices more likely than in the past. Previous AEOs have long considered this link, but it now is a higher probability. Democrat policies are designed to promote higher energy prices, an unintended benefit for energy investors.

The 2021 Annual Energy Outlook offers support to energy investors convinced that today’s weak security prices reflect a far too pessimistic outlook. In fact, we can’t think of a serious forecast of natural gas demand that doesn’t project steady growth for decades. It may not be what progressive Democrats would like to see, but since global energy demand is going to keep growing, we’ll need more of every energy source.

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.

Last week Williams Companies (WMB) held their first ever ESG Event. As might be expected, the most interesting parts were on the “E” (Environmental). It’s hard to find much original to say on Social issues, and Governance should simply mean following industry best practice.

WMB is in a position to be a big winner from policies to combat climate change. If pragmatists seize control from renewable evangelists, which they should now that Democrats own the issue, they’ll realize that measurable progress on reducing emissions will come from natural gas. Rising CO2 emissions over the next couple of years will be no surprise after almost a year of lockdowns. But the deteriorating mix of power generation (i.e. more coal and negligible increase in clean energy) mean that President Biden isn’t assured of overseeing lower emissions during his current term.

There may be valid reasons but failing to reduce emissions below their prevailing level at Trump’s exit will represent failure. Gains in natural gas over coal for power generation are set to reverse this year, because of higher prices for the former (see Emissions To Rise Under Democrats). Democrat policies to inhibit oil and gas production are already having an impact. Spending on new production continues to fall.

WMB moves 30% of America’s natural gas, much of it via their extensive Transco pipeline that runs from Texas to NY. Originally built to supply natural gas from the southeast to New York, in recent years it’s switched directions in places. Some natural gas now moves south, from the Marcellus Shale to Cheniere’s LNG export facilities in Texas and Louisiana.

WMB has identified 77 coal-burning power plants that are within Transco’s “footprint”. That is, they operate in a state through which Transco passes, and therefore can be supplied with natural gas should they be converted. Converting them all would lower US energy-related CO2 emissions by over 8%.

It must be the easiest 8% reduction available over the next few years, if the Administration can find a way to do it. WMB CEO Alan Armstrong clearly grasps the opportunity.

While America stands to benefit from shutting down coal plants, the world needs China to head in this direction. China burns half the world’s coal. They have four times the power output from such plants as the U.S. Much of the world’s planned investment in new coal burning power plants is in China. The Administration is already publicly calling for China to toughen its targets on greenhouse emissions, which are scheduled to keep rising for at least another decade.

It’s no coincidence that 68% of global trade in Liquified Natural gas (LNG) is in Asia. Last year a sudden drop in demand caused shipments to plunge from Cheniere’s Sabine Pass LNG facility in Louisiana. But helped by a cold winter, European and Asian demand has driven shipments to a new record. U.S. LNG exports last year were up 10% on 2019, a result that seem improbably six months ago.

China sources almost half of its LNG imports from Australia, and the rest from other Asian countries and Qatar, because shipping costs are significant. American natural gas prices have been rising but remain among the lowest in the world. The EIA expects higher prices to drive increased production next year.

Even though U.S. LNG exports to China are incopnsequential, our LNG exports will still benefit. The recent price spike in Asian prices has slashed European LNG imports – because shipments have been diverted to Asia. Consequently, Morgan Stanley recently raised its 2021 price for European natural gas by 35% (from $4.30 per MCF to $5.80). They expect global trade in LNG to grow at a 4% compound annual rate through 2030, with Asia driving over 80% of this increased demand and rising to 73% of the global market.

The U.S. opportunity in natural gas is to substitute it for coal. The global opportunity is to take advantage of low U.S. prices to meet growing Asian demand. WMB is well positioned to be part of both solutions.

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.

In early November when Pfizer’s vaccine announcement triggered a strong rally, technology stocks lagged small cap value. Having been out of favor for years, the Russell 2000 sprang to life, drawing in buyers at the expense of tech.

The relative movement of tech to value, defined as the ratio of the Nasdaq and Russell 2000 indices, crossed through its two hundred day moving average. This signaled an end to tech’s previous ascendancy, at least for those who follow charts.

The pattern has continued since, with the ratio now solidly below its two hundred day. It looks like a new trend has begun. Pipeline stocks are beginning to show up on recommended lists. US News included Kinder Morgan (KMI) among their ‘7 Best Value Stocks to Buy for 2021.’ Barrons regularly pushes midstream energy infrastructure for yield. The components of the American Energy Independence Index, undoubtedly a value play, still yield over 8% on a market cap weighted basis even after rallying 12% in January.

Coincident with this shift in leadership, signs of inflation are appearing. Liquefied Natural Gas (LNG) prices have soared in Asia because of unusually cold weather. JNK LNG, the regional benchmark, recently traded up eightfold from last April with some Asia-bound shipments trading at 10X the price of the US Henry Hub benchmark last week. This is great news US LNG exporters.

The JNK squeeze is dramatic but temporary. However, other commodities have also been rising sharply. Crude oil has firmed up on hopes that vaccinations will allow a return to our former lives by summer. China’s sharp economic rebound has more than doubled the price they pay for iron ore compared with March. Even rice has risen over a third since October.  Prices for hot rolled steel have doubled. Inflation is increasingly a conversation topic among investors, and is drawing more media attention such as Higher inflation is coming and it will hit bondholders in yesterday’s FT.

Gold has been weakening in recent months, but Bitcoin has soared, perhaps becoming the refuge of choice for some fleeing fiat money.

The Federal government is doing its best to cause bond investors sleepless nights. This week incoming President Biden will press Congress to approve an additional $1.9TN in pandemic relief, our third package in a year. The Federal Reserve is actively seeking inflation above its 2% target, to compensate for years of undershooting.

If inflation doesn’t rise, it won’t be because we didn’t try. It’ll reflect the continuation of disinflationary forces that have constrained it for so long.

Money Supply as measured by M2 is growing at the fastest rate since records exist. However, nominal GDP is not similarly rising, since money velocity is plunging to new depths. During the 2008-09 financial crisis, when the Fed’s Quantitative Easing led to M2 growth less than half as strong as it is now, some feared a resurgence of inflation. However, the extra liquidity sat in bank reserves and was only slowly recycled into the economy.

The difference today is that money market funds for institutional and retail accounts are $4.3TN, far higher than a year ago. The US savings rate soared above 30% last April, and although it’s been falling since then it remains historically high.  By contrast with 2008-09, these balances are readily available to fund consumption.

There is substantial dry powder for households to spend, should they so wish.

But there’s also substantial overseas demand for US treasuries, which yield the most of any G7 nation. Japan holds $1.3TN, and China $1.1TN. Theoretically, interest rate parity means that yield differentials among different sovereigns shouldn’t matter once the cost of FX hedging is factored in. But as this article implies, Japanese buyers of ten year treasuries aren’t using ten year forward FX trades to hedge their risk – they’re most likely hedging within one year, where interest rate differentials are narrower and liquidity better, making it cheaper. In effect, they’re taking yield curve risk between short term and long-term rates, but it’s been working for years. With the Fed unlikely to raise rates in the near term, it probably still looks low risk.

The bottom line is that, as long as U.S. inflation remains low, long term rates are likely to remain low too. But as lockdowns finally end, many months of frustrated purchasing power could be unleashed. How that plays out will determine the path for bonds. The market isn’t pricing in repeat of the ‘Roaring 20s’, a century after the first one.

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.

 

The U.S. Energy Information Administration (EIA) is generally apolitical – they’re not championing any single energy source. That may change under the new Administration, and they may become a shrill for renewables, but so far, they largely report data.

Yesterday their website carried Renewables account for most new U.S. electricity generating capacity in 2021, highlighting that 70% of the 39.7 Gigawatts (GW) of new capacity to be added is solar and wind.

Recently they also ran with Nuclear and coal will account for majority of U.S. generating capacity retirements in 2021. The continued drop in coal is good news – its elimination is the fastest route to reduced emissions globally. This trend is unfortunately moving in the opposite direction in China and India, but at least in the U.S. we’re getting it right.

The drop in nuclear is not helpful in terms of lowering emissions, since it produces none. A realistic path towards fighting climate change includes using more nuclear, rather than relying fully on solar panels and windmills.

What’s notable is that we’re adding 39.7GW of generating capacity while retiring 9.1GW, for a net gain of 30.6GW. Total U.S. power generating capacity is 1,100 GW, so we’re adding around 3%. But U.S. power consumption for the past decade is flat. Energy intensity, the amount of energy consumed per $ of GDP, has been falling for decades in developed countries, reflecting ongoing energy efficiencies and the steady decline of manufacturing’s share of economic output.

So why is the U.S. increasing its energy capacity?

The 39.7GW being added is certainly expected to be used – otherwise the capital wouldn’t have been invested. Most likely, it reflects the lower utilization of renewables, which typically runs 20-30%. By contrast, baseload natural gas power plants run at 90% of capacity, with nuclear higher still.

The dismal truth that, for all the excitement about solar and wind, it takes more than 1 GW of solar capacity to decommission 1GW of coal power. This lower utilization is beginning to show up in the figures. The U.S. is net adding capacity while consumption is flat. Maybe enormous growth in electric vehicles will shift energy consumption from petroleum to electricity, but it’s likely we will gradually utilize less of our power generating capacity as the mix shifts.

Comparing the cost per GW of different power sources doesn’t account for differences in utilization, which therefore flatters renewables. The need for back-up power to offset their intermittency is also normally overlooked.

Germany has pursued renewables aggressively, adding capacity even while demand has been falling. Because of this, they also have among the highest electricity prices in the world. More of their power generation sits idle than in the past, because the windpower they’ve been adding has lower utilization. Watching the “Energiewend” (Energy Transition) has been instructive for the rest of us (see It’s Not Easy Being Green).

At least they’re not as bad as California, the state with America’s most expensive and least reliable electricity (see California’s Altruistic Carbon Policy).

Outside of California, electricity is cheap in the U.S. Some may believe there is plenty of room for prices to rise. If we are serious about climate change, prices should rise. Germany’s example shows where this can go. It’s not yet part of the climate change debate in America. It should be.

We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.