Life after Climate Change: Better than you think by Bjorn Lomberg was recently published in the National Review. Lomberg has published several books arguing that climate change isn’t the existential disaster often portrayed in the media. His most recent is False Alarm: How Climate Change Panic Costs Us Trillions, Hurts the Poor, and Fails to Fix the Planet. He offers a thoughtful counter to that wretched young woman Greta who lectured us from the UN in 2019 (“How dare you?”). Her star has been falling ever since, with occasional news coverage only when her protests lead to an arrest.

The National Review article and two other pieces were brought to my attention by a long-time client and friend as examples of unconventional thinking that deserve more widespread dissemination. Lomberg harnesses facts to present a future unlikely to be catastrophic. He notes that global hurricanes last year were the second weakest batch since 1980 when satellites began capturing data. The UN Climate Panel expects strong hurricanes to increase by 10-20%. Annually, they cause damage worth 0.04% of GDP, a figure expected to continue falling. A richer world will have more property to damage but will also be better able to afford resiliency to protect lives and assets.

Heat deaths have been rising, but globally 8X as many people die from cold, which makes blood vessels constrict to maintain warmth for internal organs, driving up blood pressure. It’ll sound flippant, but I spend much more money and effort avoiding cold weather, by spending most of the winter in Florida. I like 90 degrees. If we faced global cooling I would be far more agitated. The prospect of glaciers returning to New Jersey would be a deterioration in quality of life hard to pin on the state’s Democrats.

Lomberg goes on to note that the % of land burned in forest fires has been falling from around 4.2% in the early 1900s. And that improving living standards will reduce malnutrition. Higher energy prices and reduced access to fossil fuels will directly impede this process. For good measure he adds criticisms of solar and wind that will be familiar to regular readers (intermittency; low energy density; heavy reliance on steel and concrete). Lomberg doesn’t dispute that rising CO2 levels will cause warming, but he advocates assessing the costs and benefits of different policies, something rarely heard from climate extremists.

The UN advocates for energy policies that will constrain planetary warming to 1.5 degrees Celsius above 1850. Today we’re only 0.4 degrees away from that theoretical threshold at which disaster becomes unavoidable. Modelling the climate is complicated and precise forecasts aren’t credible. We should address the risk but human lives are at stake from impetuous liberal energy policies too.

Mark Levin’s American Marxism includes text from AOC’s Green New Deal to remind how far left policies on climate would lead to Federal control of vast parts of the economy via an army of new bureaucrats spending $TNs. The Green New Deal’s preamble asserted disproportionate harm to “indigenous communities, communities of color…women”. For more detail of its shortcomings, see The Green New Deal’s Denial of Science and The Bovine Green Dream.

Bjorn Lomberg cites a study showing that cheap US natural gas had allowed poorer households to be better heated, saving an estimated 11,000 lives each year.

A monthly newsletter by Stephen Leeb (The Complete Investor) was the third piece shared by my friend. Leeb makes the case for higher long term crude oil prices, arguing that global demand will inevitably keep rising because of emerging economies led by China, and that current prices imply unrealistic assumptions about future supply growth.

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Research from Goldman Sachs shows that the increased costs of developing large new oil reserves has reduced capex and average reserve life while also driving up break-evens. The industry’s investment has been in a down cycle for almost a decade. US shale led to lower prices and convinced companies to curb spending. The ESG movement made big public companies sensitive about supplying what amounts to 80% of the world’s energy. The consequent increase in free cash flow has been good for shareholders. Hug a climate protester.

But Russia’s invasion of Ukraine made the EU consider energy security for the first time in living memory. Renewables have delivered hype but not yet made a meaningful dent in the global energy mix. Today even European companies like Shell are increasing their investments in reliable energy, following their American peers in the hope of recouping recent stock underperformance.

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The views expressed in the writings shared by my friend have always represented pragmatic realism. As they become more mainstream we’ll all benefit from more balanced climate policies that consider cost-benefit tradeoffs. The tiresome Greta is becoming an anachronism, reflecting all that is bad about the extreme climate movement.

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

Climate extremists have a well deserved reputation for a simplistic approach to solving the complex problem of curbing CO2 emissions without impoverishing us all. However, poorly informed objectives doesn’t mean they have a co-ordinated approach. The growth in solar and wind power is setting environmental extremists against one another. 

Take New Jersey, a state whose politics have lurched expensively left in recent years. Governor Phil Murphy and the Democrat legislature are pursuing an ambitious plan to develop offshore windpower. Danish firm Orsted plans enough wind turbines to power a million NJ homes. The project was expected to cost $1.6BN four years ago, but last week the company won approval from NJ to keep tax credits from the Inflation Reduction Act that were originally intended to benefit electricity customers.  

The bailout will surprise few. But NJ Democrats probably weren’t expecting to face growing opposition to hundreds of offshore wind turbines from environmentalists. Nonetheless, ProtectOurCoastNJ is showing rare intellectual deftness in opposing “the industrialization of the oceans” while also arguing in favor of efforts to reduce global greenhouse gases. They offer a coherent view that is uncommon among their peers.  

There are many arguments against windpower. It’s not renewable because the turbines have a useful life of around twenty years. They’re made of steel and concrete, whose manufacture relies on fossil fuels. The worn out blades typically end up in special landfills. Wind is intermittent, although offshore wind produces power more reliably than onshore. Increased penetration of weather-dependent electricity on a grid raises the need for reliable back-up, often from natural gas power plants. Therefore, renewables raise prices, a wholly understandable result that advocates should embrace as worth the cost. Instead, they claim the opposite, ignoring the examples of Germany which ranks among the world’s priciest electricity. And California, which vies for this title and goes one better with unreliability to boot.  

ProtectOurCoastNJ opposes offshore windpower because of the threat to wildlife, including whales. They cite the noise from construction, arguing that, “Vibrations from driving 36’ diameter steel piles 150’ into the sea floor will radiate for miles.” They argue that the nutrient-rich cold pool of water which sits near the surface will be disrupted by the turbine blades. The electro-magnetic field from the high-voltage cables will disorient fish. They worry about nautical navigation around the turbines, leaking oil and other hazardous chemicals, the increased cost of electricity and the view. The wind turbines will be clearly visible from the beaches of the Jersey shore. 

Britain relies heavily on offshore windpower. There are turbines in the English Channel. I’ve seen them when visiting friends who live on the southeast coast. They are visible, but I must confess that they look as far off as a passing cargo ship and are about as objectionable.  

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However, the simulated photos of what the NJ offshore turbines will look like does portray them as more visible than the UK version.  

ProtectOurCoastNJ goes on to list many more sensible power sources to reduce emissions. These include switching from coal to natural gas, greater use of nuclear power and carbon capture. They sound as if they are subscribers to this blog.  

The point is that environmentalists are far from a homogenous group. There will always be a group opposing just about any construction. Unusually, ProtectOurCoastNJ has a pragmatic outlook and offers sensible alternatives for the windpower they oppose. Mountain Valley Pipeline isn’t the only energy infrastructure project to struggle with opposition from activists.  

In other news, NextDecade (NEXT) announced their long-awaited Final Investment Decision (FID) to go ahead with their Rio Grande LNG export project, and the stock fell sharply. This was because NEXT’s share of the cashflows of Stage 1 turned out to be lower than their prior guidance – 20.8%, whereas investors were expecting around a third.  

This was disappointing, and the consequent sell-off in our opinion leaves the stock priced just for Stage 1 (Trains 1-3) with no added value for Stage 2 (Trains 4-5). NEXT is guiding for much better economics on Stage 2 assuming it ultimately goes ahead. Although Stage 2 isn’t reflected in the price, we think on a per share basis it could be worth 2-3X Stage 1. They also have Next Carbon Solutions which is focused on helping industrial companies capture and store CO2. Some people at NEXT think there’s as much value in this as the LNG business, although the stock price ascribes no value to it. 

NEXT is a multi-year story. We still like the stock.  

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

Last year’s Inflation Reduction Act (IRA) raised the tax credit for CO2 that’s permanently buried underground. Some CO2 is used in Enhanced Oil Recovery (EOR) to help push crude out of mature, low pressure wells. It can then be pumped back into the well for permanent storage. This is Carbon Capture, Use and Sequestration (CCUS). The IRA tax credit for CCUS via EOR is $60 per metric tonne. There are still some sources of naturally occurring CO2 that are tapped for EOR, a counterintuitive process that IRA tax credits will likely cause to be phased out.

Burying CO2 without using it to produce fossil fuels is more in keeping with the spirit of climate change, and so Carbon Capture and Sequestration (CCS) draws larger credits than CCUS. The biggest credit goes to CCS that extracts CO2 out of the ambient air, called Direct Air Capture (DAC). CO2 exists at about 412 parts per million and is fairly evenly distributed. DAC is expensive, but the IRA’s $180 per tonne credit is enough to justify private sector investment. Extraction facilities can be placed wherever is convenient – such as above a geological formation that used to hold hydrocarbons.

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There’s a beautiful symmetry here, in that carbon atoms are first extracted as hydrocarbon molecules. For example, natural gas (methane) is CH4. Their combustion causes the carbon atom to break from its hydrogen atoms and recombine with oxygen, forming the CO2 atoms whose increasing presence is a main driver of concern about global warming. Some of the best places to permanently store CO2 molecules are where CH4 molecules and other hydrocarbons were originally found deep underground.

The map is unfortunately a little grainy, but nonetheless makes clear that CCUS projects are either linked to old oil/gas wells by CO2 pipelines or sit directly above them.

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Energy infrastructure investors should care about this for two reasons. One is that carbon capture offers a new revenue source, since the pipelines and other hardware required are owned and will be built by existing midstream businesses. Enlink is especially well positioned, since they have a significant presence in Louisiana moving natural gas to the state’s petrochemical industry. Providing transport for the CO2 byproduct back to the geological formations that sourced the hydrocarbons is a good fit.

The second reason is that increased use of carbon capture enhances the benefits of traditional, reliable energy versus solar and wind. In all of human history we’ve never transitioned to a form of energy that  is less reliable and takes up far more space than what we’re already using. Solar panels and windmills are a regressive step in many ways.

Cheap natural gas and IRA tax credits are a potent combination that is drawing industries to the US. OCI, a Dutch fertilizer company, is building a $1BN ammonia plant in Texas that will capture 95% of the emissions generated by its process. Ammonia is widely used to produce fertilizer, one of Vaclav Smil’s four pillars of civilization (along with steel, cement and plastic).

The “blue” ammonia OCI will produce costs $119 per metric tonne more than conventionally produced ammonia. But they estimate that the IRA tax credits will be worth $145 per tonne. It’s a perfect example of why European businesses are being drawn to America.

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German politicians have drawn comfort from the drop in industrial energy use following Russia’s invasion of Ukraine. Some credited conservation measures by energy-intensive manufacturers, but the data shows that a drop in output is the real explanation. America’s energy policies unlocked cheap oil and gas. European companies such as OCI are investing here because of that. German energy policies led to enormous investment in windpower and neglected natural gas because they thought Russia would maintain supply until it was no longer needed. They have the world’s most expensive electricity as a result, with any reduction in CO2 emissions swamped by China’s consumption of half the world’s coal. German energy policies are a catastrophe.

Berkshire Hathaway continues to lean into the wind by increasing its traditional energy investments. Most recently Buffett invested $3.3BN for 50% of the Cove Point LNG plant, adding to the 25% already owned via Berkshire Hathaway Energy. He obviously sees a bright future for exports of US natural gas.

Lastly, the Mountain Valley Pipeline (MVP) saga took another turn with the US Court of Appeals for the Fourth Circuit’s decision to halt construction in response to a lawsuit filed by the Wilderness Society. The suit concerns a 3.5 mile construction corridor through the Jefferson National Forest. Even an act of Congress specifically approving MVP has been insufficient to break through the legal obstacles. Infrastructure permitting in the US is a mess.

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

It’s almost two months since Oneok (OKE) announced their proposed acquisition of Magellan Midstream Parners (MMP). Consummation of the transaction has never looked more promising than on the day of the press release.

By mid-May, the market was ascribing less than 30% odds of shareholder approval, based on the gap between MMP and the combination of OKE stock and cash that is on offer. Energy Income Partners (EIP), a significant holder of MMP, issued a public letter outlining the reasons for their opposition. We had made similar arguments in prior blog posts (see Oneok Does A Deal Nobody Needs).

EIP’s letter so far marks the nadir of the market’s support for the deal. Neither company responded publicly to EIP’s criticisms although both have been active behind the scenes. At a couple of recent industry events they were making the case to interested investors, and the market-implied probability of the deal closing improved.

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The tax bill facing MMP unitholders is the most offensive element of the transaction. The longer you’ve held MMP, the lower your cost basis and the greater your recapture of taxes deferred on distributions. MMP business model is designed to encourage investors who plan to stick around. In their May 4 press release disclosing 1Q earnings, MMP said they remain committed to, “…maximizing long-term investor value.”

Except this isn’t true.

The merger with OKE rewards the short-term investor whose recent purchase doesn’t create a tax obligation. This includes the MMP management team who are embarrassingly paltry investors in their own company. By MMP’s own calculations, the investors who have held their units the longest are facing the biggest tax bill. Like John Kerry (“I did vote for (it) before I voted against it”) MMP wants investors with a long-term outlook until they don’t. Their pursuit of a combination with OKE prioritizes value creation for short term investors because they’re the ones without the inconvenient tax deferral.

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Sell-side analysts are not unbiased, objective observers. There’s not much in underwriting fees to be gained from upsetting potential capital markets clients. Therefore, the lukewarm comments from several firms can be interpreted as a negative view ameliorated by their business models. It’s a form of code. The deal odds slipped below 50% a month ago and still haven’t broken above in spite of the management charm offensive. The market’s unenthusiastic response means that if the deal does get approved there will be many former MMP investors ready to dump their newly received OKE stock, since they’ll have no taxable gains. OKE/MMP remains, just, more likely than not to be voted down. We’re happy to be raising awareness.

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In other news, the US Energy Information Administration (EIA) reported that global trade in Liquefied Natural Gas (LNG) reached a new record last year of 51.7 Billion Cubic Feet per Day (BCF/D). Recent increases have been driven by liquefaction capacity additions in the US. Europe’s loss of Russian pipeline imports has also helped, since these have been partly replaced by imported LNG.

NextDecade (NEXT) is a company we’ve followed for some time. They recently confirmed they have bank financing in place to begin construction of their Rio Grande LNG export facility. Bechtel, who has the contract, just awarded an order to Baker Hughes to supply three main refrigerant compressors as part of the project. NextDecade hasn’t yet announced a Formal Investment Decision (FID) to proceed but have indicated this is imminent. We continue to think NEXT is attractively priced at current levels. Announcement of FID should be reflected in the current price although may still provide a modest boost. In any event we think the stock offers good upside potential.

Finally, within the details of Friday’s employment report was the news that black workers have accounted for 90% of the recent rise in unemployment. Monetary policy is hardly the tool with which to combat such a development. Past history shows that minority unemployment rises faster during a slowdown. However, Fed chair Jay Powell has in the past stated a desire for maximum employment that is “broad-based and inclusive” (see Criticism Of The Fed Goes Mainstream). Democrat lawmakers have another reason to criticize the conduct of monetary policy.

Market expectations have shifted in recent weeks towards the blue dots from the FOMC’s Projections. Just two months ago Fed funds futures were priced for a policy rate of 2.75% by the end of next year. Since then, hawkish comments from the FOMC and moderately firmer data have led traders to revise this to 4.25%. Usually the market is better than the Fed at forecasting monetary policy. This time around, they’ve caught some traders flat footed.

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

Independence Day is a wonderful holiday. It involves being outside in warm weather with the family to eat and watch fireworks. What’s not to like? Perhaps more than at any other time of the year, Americans rightly feel pride at our great country. As a transplanted Brit for now 41 years, my riposte to the inevitable jokes about a long-ago war is to point out that if it had gone the other way I wouldn’t have moved. 

Ronald Reagan was my first president, and his sunny optimism has seemed right ever since. I have a small bust of him on my desk. He would chuckle to know that it was picked up at the Truman Little White House in Key West gift shop, a Republican memento bought at a museum honoring a Democrat president.  

At the 1992 Republican National Convention, former President Reagan said “America’s best days are yet to come.” Two years later in his poignant letter disclosing Alzheimer’s he ended with the same sentiment. Warren Buffett shares Reagan’s consistently positive outlook, but negativity is all too easily found in the media. As we argued recently, it doesn’t fit the facts (see So Many Pessimists).  

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In April, The Economist declared that America’s economic outperformance is a marvel to behold. There’s no bad time for this view but rereading it while contemplating an afternoon of bbq then pyrotechnics will make a thoroughly agreeable day even better.  

The charts date back to Reagan’s time in office and his 1992 speech. There were plenty of reasons then to dismiss such simplistic optimism. In 1989 Paul Kennedy published The Rise and Fall of the Great Powers: Economic Change and Military Conflict from 1500 to 2000. It remains an insightful history of how economic might usually drives military power (the EU is a notable exception). Eventually empires sink under the weight of maintaining global hegemony. But Kennedy’s prediction that Japan would eventually supplant America at the top of the economic pyramid was spectacularly wrong.  

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China is our strategic competitor. But their economy is still only three quarters the size of ours with four times the population. And ominously, that is now declining. I like our chances better than theirs. And as far as where I’d rather live – well, let’s just say it’ll be a cold day in hell before China is fending off hordes of western immigrants seeking a Chinese lifestyle.  

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In 1982 when I moved to the US, I left the UK’s GDP per capita of $10K for America’s $14K. Today’s figures are $46K and $80K. Decades of lower productivity capped with the self-destructive if understandable Brexit vote have taken their toll. British living standards have slipped behind Germany’s. Relative to the US, UK households are as far behind today as Italy was in 1980. Few would have made that bet. Vindication of a decision to emigrate 41 years ago relies on more idiosyncratic metrics. But, as in trading, it’s important to go with the major trend.  

The data also reflects American exceptionalism because nobody else has been able to keep up. Our problems include fiscal profligacy, a poorly functioning electoral process heading for a rematch of two polarizing old men that nobody wants, and wokeness out of control. We’re managing to overcome all those headwinds. Whatever problems we have are self-inflicted, and not insurmountable.  

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We love our flags in America. In England the Cross of St George has replaced the British Union Jack at sporting events. The united kingdom is less so nowadays. Brexit exposed that the Scots would prefer to be run out of Brussels than London. They even root for England’s opponent in the World Cup. If a vote on Scottish independence was held in England they’d be sent packing. 

The British flag was on full display during Charles III’s coronation, and his mother’s funeral last year. It’s flown on special occasions. But normal British reserve constrains such overt patriotism.  

America is different. The waterway behind our shore house in Point Pleasant, NJ shows a flag at every home. These don’t just fly on Independence Day, but on every day. Ours is on the left. Proud of my English heritage, I originally added the Cross of St George appropriately positioned below our Stars and Stripes. Regrettably it was made from cheaper material that a few months of coastal breeze turned ragged. It had to be retired. Our American flag is indefatigable. Like America.  

Happy Birthday America.  

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

When it comes to energy, the media has a decided liberal bias. With a few exceptions, journalists covering this sector breathlessly highlight the phenomenal growth of renewables and criticize those evil fossil fuel companies who supply 82% of the world’s primary energy. The solar/wind juggernaut is barreling along and if you don’t jump on you’ll be on the wrong side of history.

Bloomberg’s Naureen Malik, who’s not an obvious proselytizer for intermittent energy, recently noted that natural gas power plants represent a disproportionate share of outages during bad weather. Natural gas is America’s favorite fuel, providing 40% of US electricity generation last year and projected to rise to 41% this year. That’s three times the share of solar and wind.

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If natural gas power plants sometimes fail during extreme weather, it reflects choices made about investing in hardening them. In some cases, spending on solar and wind has taken priority. It doesn’t reflect any inherent flaw in natural gas, which is why it’s America’s favorite fuel.

Last winter natural gas provided a record amount of power. What’s disproportionate is the media coverage of renewables relative to their impact. Solar panels aren’t just vulnerable to cloudy days, but also to hailstorms, as the photo from Nebraska shows.

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The chart showing share of electricity generation by source hardly suggests that utilities are drawn to the resilience of solar and wind. Bloomberg’s Malik might have presented a more balanced perspective by including such charts.

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The EIA provides substantial data on current energy consumption as well as projected use. Their Annual Energy Outlook includes several scenarios as well as their Reference (or Base) Case. The most bullish natural gas scenario they model is the High Oil and Gas Resource and Technology Case. It’s labeled the Upside Case in the chart.

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The steady growth in US natural gas consumption over the past five years hasn’t drawn much coverage, but since 2017 its use in power generation has grown at a 6% Compound Annual Growth Rate (CAGR), around the same as renewables. Because natural gas is our biggest source of electricity generation, the 418 billion kWh five year increase is almost double that from renewables (222 billion kWh). Coal use has declined at an 8% CAGR. This story doesn’t get told because it doesn’t align with the left-wing bias of most journalists. Too many energy news stories are little more than an op-ed.

The big story in US energy is the increasing use of natural gas, expanding at the most optimistic rate envisaged by the EIA five years ago. It’s also been our biggest source of reduced CO2 emissions, because coal use has simultaneously declined. The shale revolution generated mixed investment results, but it brought cheap energy that has boosted business here, can be exported to our friends and allies and provides energy security.

For several years the dark shadow of the energy transition dissuaded investors from committing capital to reliable energy. There’s a welcome turn in sentiment. Shell is trying to look more like US energy companies who resisted woke protesters to focus on maximizing returns. Blackrock’s Larry Fink has vowed not to use the term “ESG” since it’s become so maligned. Sweden recently adopted energy policies that dropped “only renewables” in favor of “clean”. This sensible shift allows for the inclusion of nuclear, and fuels like natural gas if the emissions are captured.

Midstream energy infrastructure has lagged the market this year, because it’s not a sector synonymous with AI. But relative performance in June was good with the American Energy Independence Index making up for some lost ground. The narrative around renewables and the energy transition is more subtle than the headlines, a realization that is spreading.

If you follow the energy sector you have to pick your journalists and outlets carefully.

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The futures market continues to chart a rate path less hawkish than the FOMC’s blue dots. But the gap is narrowing, in an unusual case of the market correcting towards the Fed. The carnage inflicted on bank securities’ portfolios was shown in Bank of America’s disclosure that they have $100BN in unrealized losses on their securities holdings. They’ve benefited as recipients of deposits fleeing smaller regional banks, but it is depressing their net interest margin because they’re stuck with a lot of low-yielding bonds acquired by competing with the Fed during QE. It shouldn’t have been hard to limit bond exposure. Central banks rendered the entire investment grade sector useless to the return-oriented investor. Yields are still too low. Bank of America flubbed risk management. JPMorgan did much better.

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

On Monday the Energy Institute (EI) published the 72^nd edition of the Statistical Review of World Energy. BP handed off this responsibility last year. They probably felt that saying anything about energy consumption would inflame climate extremists without commensurate benefit.

The EI launched the publication with a webinar, which predictably was both upbeat on renewables while lamenting their slow penetration. The interesting data in the review mostly concerns fossil fuels, which one panelist complained remain at 82% of primary energy consumption despite renewables being cheaper. Unspoken was that it might be the result of a conspiracy by energy companies to willfully deny themselves the higher profits widespread solar and wind could provide. Or maybe they’re just not cheaper.

Renewables (defined to exclude hydropower and now four fifths solar and wind) nonetheless reached a 7.5% share of the world’s primary energy consumption last year, up almost 1%. China is the biggest consumer of renewables power at 29% of the global total. They’ve grown their consumption at almost 25% pa over the past decade. China provides many energy superlatives.

Some may be surprised to learn that global natural gas consumption fell 3% last year, but this was a demand response to Russia’s invasion of Ukraine. Prices paid by Europeans jumped as much as threefold, and in Japan almost doubled. US prices rose too but remain far below other global benchmarks.

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The result was that natural gas consumption fell in every region of the world except the US, where it rose 5%. The US consumes 22% of global output and is also the biggest producer with a 24% market share.

Regular readers are familiar with the growth in US Liquefied Natural Gas (LNG) exports, up from almost nothing a decade ago to 104 Billion Cubic Meters (BCM) last year. Global trade in LNG used to be dominated by Asia, but last year European LNG imports rose 57%. The global LNG trade reached 542 BCM, up from 516 BCM the prior year with a ten year Compound Annual Growth Rate (CAGR) of 5%. Japan replaced China as the top LNG importer as the Chinese lockdown slowed domestic economic activity. However, China is expected to displace Japan this year or next. Increased LNG typically reduces coal demand, a goal most will find desirable.

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Coal consumption grew slightly, although surprisingly not in Europe in spite of their need to replace Russian natural gas. Energy conservation and slower growth caused overall energy consumption to dip in the EU, while sanctions had a similar effect on Russia. China continued to burn over half the world’s coal, increasing slightly from 54.6% to 54.8% of global consumption. This is 9X the US, where consumption has been declining at a 5.5% CAGR.

The best news on China is its continued growth of nuclear power, which has a 15% CAGR over ten years. The US remains the global leader in nuclear, producing roughly 2X the output of China. But this lead will shrink as China continues to build new power plants.

The climate change debate pits OECD countries with high living standards against developing countries whose desire for western lifestyles requires more energy use. US per capita energy consumption is 2.5X China’s and an astonishing 20X Africa’s. Our figure is flat over the past decade, while for the non-OECD countries the ten year CAGR is 1%. Poorer countries still have a lot of catching up to do.

Our CO2 emissions from energy have a ten year CAGR of –0.5%, compared with 1.6% for China. If CO2 levels eventually reach a point that harms the planet, it’ll be because China’s emissions were the tipping point.

If you care about US natural gas consumption and exports, the review was full of encouraging realism.

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The world’s major energy companies are confirming the long term future of natural gas with their spending decisions. The forecasts of declining global consumption are what’s required to hit increasingly unlikely net-zero emissions targets, such as the IEA Net Zero Outlook in the chart.

China keeps signing long term LNG purchase agreements, including one recently with Qatar. On Monday China’s ENN Natural Gas’s Singapore subsidiary signed a 20+ year deal with Cheniere. Shell’s CEO recently told investors “Liquefied natural gas will play an even bigger role in the energy system of the future than it plays today,”

This all fits well with America’s growing dominance in the global LNG trade.

The US Energy Information Administration (EIA) warned that much of the country is at risk of energy shortfalls this summer. US power generation has grown at 0.5% pa over the past decade, so the problem isn’t caused by soaring demand. But solar and wind edged up to 15% of electricity generation last year, from 14% in 2021. Their intermittency is increasing our risk of power outages. The eastern part of the country is assessed as low risk, so living in NJ has its good points. But if your air conditioning doesn’t work when you need it in July, blame the climate extremists.

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

We’re getting used to 4-5% inflation. Using the Fed’s preferred measure, core Personal Consumption Expenditures (PCE), it’s been above 3% since April 2021. People are quietly mentioning the unmentionable – what if the Fed raises its inflation target? 

The Economist recently published a briefing warning that “failure to quell it quickly will transform financial markets”. Whether the Fed suppresses the economy enough to get inflation back to 2% or not, it’s already too late for it to be quick.  

Richard Clarida was vice chair at the Fed until he resigned in January 2022 amid controversy over well-timed personal stock trades just prior to a barrage of pandemic-related rescue programs. He returned to PIMCO. Clarida told the Economist the Fed, “… will eventually get the inflation rate it wants” adding, “It could be 2.8% or 2.9% when they start to consider rate cuts.” 

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Clarida joins a growing chorus of Wall Street strategists who are asking the same question. There’s nothing magic about 2%. It’s predictability that’s important, although the Economist goes on to argue that higher inflation is damaging precisely because it makes future inflation harder to forecast.  

Don’t expect Fed chair Jay Powell to announce a revised interpretation of their twin mandate (full employment with stable prices). The last time they did that was following their 2020 Jackson Hole symposium. Powell expressed a tolerance for “…inflation moderately above 2 percent for some time.”  Thereafter, “transitory” became overused and then dropped from his lexicon.  

We know this Fed focuses on whichever element of its twin mandate is farthest from target. They do not anticipate events, even though the tools of monetary policy take many months to have an impact. A jump in unemployment could see them pivot away from inflation.   

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As we’ve noted before, some investors are already considering how to respond (see 4% Inflation Is Our Least Bad Option). Aging populations in the rich world mean a shrinking labor force. Globalization, the big driver of disinflation for decades, is reversing as supply chains are modified to match national security needs. Apple is just one company planning to reduce its reliance on China by shifting iphone production to India.  

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Treasury Inflation Protected Securities (TIPS) are expensive, their prices as much distorted by the Fed’s QE purchases as conventional securities. Ten year TIPs at 1.5% are priced for ten-year inflation expectations of 2.2% when subtracted from regular ten year notes yielding 3.7%. This calculation has been below 2.3% all year. It’s a mistake to infer credibility in the Fed’s efforts. The University of Michigan survey shows ten-year inflation expectations have been rising all year, and now sit at a twelve year high of 3.2%, almost 1% above TIPs. This shows the bond market can’t be relied on as a measure of what investors think will happen.  

Stocks are better than bonds in such an environment. Within the equity market, stocks with pricing power should offer protection. The Economist recommends physical assets including infrastructure, because they, “generate income streams, in the form of rents and usage charges, that can often be raised in line with inflation or may even be contractually linked to it.” 

The Economist adds that such assets are hard to access, often “…dominated by private investment managers, who tend to focus on selling to big institutional investors.” 

An important exception is midstream energy infrastructure, the regular topic of this blog. This sector might be the solution to any investor wanting a portfolio designed for a world where 4% is the new 2%.  

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Right on cue, Wells Fargo just published Midstream: Capital Allocation Conundrum—What to Do with All That FCF? They see 10%+ price upside over the next five years from excess free cash flow deployed to either buybacks or dividends. Pipelines have pricing power, in that many tariffs increase automatically with inflation. These are scarce assets, thanks in part to climate extremists who have made new construction unappealing through persistent ruinous court challenges. Mountain Valley Pipeline will soon be finished, but the protracted timeline will serve as a warning that returns on growth capex can be uncertain. Hug a climate protester and drive them to their next protest.  

Dividend yields are around 6%. The Wells Fargo analysis includes baseline 4.3% annual dividend growth and steady capex. The excess cash flow they project is worth around 2% pa. Adding the three together results in a 12.3% pa five year return. That’s not assuming any repricing as investors are drawn towards publicly traded infrastructure, even though returns like this would probably create their own momentum.  

After reading The Economist’s Investors must prepare for sustained higher inflation, you’ll be relieved to turn to midstream energy infrastructure which just might be part of the solution.  

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

The Equity Risk Premium (ERP) is a measure of the relative attractiveness of stocks versus bonds. It compares the earnings yield on stocks with the interest rate on ten year treasury notes. For much of the past decade it’s shown stocks to be relatively attractive compared to the average relationship going back to 1962 – of no particular significance also my entire lifetime.

Quantitative Easing (QE), first unveiled with acute insight by Fed chair Ben Bernanke during the Great Financial Crisis (GFC) and abused by successive Fed chairs ever since, made bonds unattractive. QE has evolved from a unique solution to a banking crisis into a form of partial Federal debt monetization. The problems facing regional banks trace their roots to many banks mistakenly concluding that if the Fed was loading up on long term bonds that must make it acceptable to do so. This suspension of critical thinking exposed the absence of competent risk management. America’s more than 4,000 banks have a greater need of chief risk officers than the pool of qualified candidates can supply.

Since the founding of your blogger’s firm, SL Advisors, in 2009, stocks have represented the only meaningful source of return. Bonds have had some good years because the Fed has more or less adopted permanent QE, at least judging from their balance sheet. Repeated promises to kick the QE narcotic habit have done little more than impose a brief pause in the inexorable growth of the central bank’s bond holdings.

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The Fed’s eventual zeal to vanquish inflation has over the past year or so improved the relative appeal of bonds. But fixed income investors must still compete with return-insensitive foreign central banks, pension funds with inflexible investment mandates that require bonds, and our own Federal Reserve with its bloated [$8TN] in holdings. Bonds are a long way from cheap. Ten year yields of 3.75% remain inadequate compared with long term inflation unlikely to return to 2% and a Debt:GDP ratio heading relentlessly up. But some might agree that yields on shorter maturities justify the discerning investor in considering modest exposure. Treasury bill yields above 5% almost seems like a fair return, provoking nostalgic recollections of the time value of money and the “float” banks make on the days required in processing checks.

Last year we responded to the lethargy with which Charles Schwab Bank and its peers raise deposit rates by sweeping client cash into two year treasury notes. More recently our Florida homeowners’ association moved its funds in excess of working capital out of a parsimonious 2% bank “savings” account and into the glorious bounty of 5.25% 90-day treasury bills.

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In April when we last examined the ERP, we concluded that stocks were not cheap. Behavioral finance teaches that overconfidence afflicts too many investors. Opinions come with much wider confidence intervals than are usually acknowledged. Humility among investors is acquired while learning this, if fortunate at only modest expense. There are many ways to value the market, some of which probably make it appear cheap. The ERP is not a secret.

Since April, earnings forecasts have stopped falling. This stabilization has offered hope that the recession promised for later this year will be postponed, helping propel stocks higher. The yield curve has similarly responded. At one point during the demise of Silicon Valley Bank, traders were betting on a Fed Funds rate below 3% by the end of next year, suggesting a cut of almost 2%. More recently, Fed chair Powell’s warning of a couple of years before rates come down left many unconvinced. But traders have shown him enough respect that the ignominy of a premature capitulation on inflation has been quietly shelved.

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Stocks have looked beyond the end of declining earnings forecasts and anticipate upward revisions. Expected growth in profits for next year has moved above 10%. However, when stock prices and bond yields rise together, the inevitable casualty is equity valuation. Whatever you thought in April, an S&P500 at 4,400 is less appealing than the 4,100 of two months ago.

We’re not about to eschew stocks to become bond investors. There’s no alternative to equities for investors who wish to preserve their capital’s purchasing power. Tactically switching out of stocks and back in requires two good timing decisions. Taxes on realized gains make it even harder.

At the risk of repeating an admonition frequently offered on this blog, midstream energy infrastructure stocks remain dirt cheap. Ample dividend coverage, continued financial discipline and pipeline tariffs that are often linked to inflation make this a sector whose entry needs no skill at market timing. We’re not selling anything.

But for the investor with cash to invest in the broader market, we’d suggest that the need for action is not urgent. Today’s entry point is likely to be available again, and perhaps better ones too.

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund

Insider trading hasn’t been eliminated, in spite of the SEC’s efforts. In March Terren S Peizer, CEO of Ontrak Inc, was indicted for selling stock in his company when he knew they were losing a key client. He did the trades using Rule 10b5-1 which governs when senior executives can dispose of shares.

Last week provided circumstantial evidence that insiders were selling NextDecade (NEXT). On Monday and Tuesday NEXT dropped $1, from $6.14 to $5.13, on higher than average volume. There was no news out to justify the drop. The company had most recently reaffirmed its intention to reach Final Investment Decision (FID) on its proposed Rio Grande LNG export facility (see Situations We’re Following). We weren’t aware of any revised ratings from analysts on NEXT. The drop was puzzling.

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On Wednesday morning NEXT announced the issuance of the first of three tranches of equity to France’s TotalEnergies, on terms that the company estimates will result in the French energy giant owning 17.5% of NEXT at $4.86 per share.

It seems likely the issuance of NEXT shares at $4.86 was known to some unscrupulous traders. That’s the only plausible explanation for the stock’s precipitous drop in the days prior. Past direct sales of shares by NEXT have similarly been preceded by selling that turned out to be profitable once the announcement was made.

But this time it came with news of a large LNG offtake agreement, also with TotalEnergies. It means capacity for the first three trains is almost completely sold out, making FID highly likely.

This news caught many people by surprise – presumably including the recent aggressive sellers. NEXT stock soared 50% on almost 38 million shares, around 50X its typical volume. There was follow through buying on Thursday, which brought the stock to 62% above its Tuesday afternoon low.

Insider trading is alive and well. NEXT has a problem in maintaining confidentiality around its capital markets activities. Fortunately, this time those seeking free money were relieved of some of theirs.

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Fed chair Jay Powell maintained the Fed’s posture as more hawkish than the market. He suggested that rates may not come down for a couple of years. Interest rate futures adjusted towards this view but traders are still far from convinced.

It was bad news for banks, many of which loaded up on low yielding securities and loans during QE and now face competition from 5%+ yielding treasury bills to retain their deposits. Tier One capital has sunk since the Fed began tightening last year, although it recovered slightly last quarter.

Federal Reserve Governor Christopher Waller feels no responsibility for the squeeze on net interest margins. “I do not support altering the stance of monetary policy over worries of ineffectual management at a few banks,” Waller said in a recent interview.

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Too many bank CEOs have demonstrated weak risk management. Bailing them out is not the Fed’s job – but as their regulator they should face some tough questions on how monetary policy caught out the industry they are apparently overseeing. If the market is correct in forecasting lower rates next year, it’ll be because the squeeze on net interest margins has impeded credit creation. The 1.5% spread between one year treasury bills and ten year notes renders long term fixed rate exposure unattractive.

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The energy transition is providing opportunities for behavior at both ends of the evolutionary spectrum. Sweden’s overly liberal penal code is insufficient to dissuade two morons from defacing a Monet to promote their dystopian vision. Along with their other sad export, Greta, Sweden is developing an unfortunate reputation for producing spoiled, poorly informed young people. If the Swedes can’t discourage such damage to art, perhaps they should send it to another country where it’ll be safe.

More constructive was Williams Companies CEO Alan Armstrong reminding us that increased deployment of intermittent solar and wind will increase the need for natural gas, to provide the reliability that weather-dependent power does not. Williams correctly noted that, “Nobody’s ever going to be comfortable saying: ‘Oh, we’re willing to risk that for five days, we don’t have wind or solar and we’re not going to have a back-up’.”

Our view aligns with Armstrong’s, which is why we believe natural gas and its related infrastructure continue to benefit from increased demand globally. Last week’s sharp move higher in NEXT as their planned LNG export facility moves closer to FID was an example. We expect an announcement from the company by the end of the month, which should include more detail on the mix of financing they intend to pursue. US natural gas is taking another step towards supplying our friends and allies around the world.

We have three funds that seek to profit from this environment:

Energy Mutual Fund

Energy ETF

Real Assets Fund