Although we are eager to see a reduction in Greenhouse Gases (“GHG”) and the utilization of more renewable energy sources, the pathway to zero emissions will not be a straight one. In this article, we will review various aspects, consequences, and potential implications of achieving these goals from a social and investment perspective. Our analysis covers environmental policy, inflation, and the renewable energy markets.
Environmental Policy: Two months ago, the U.N.’s 26th Climate Change Conference (“COP26”) took place in Glasgow, Scotland. The conference brings together leading climate scientists, government, and industry leaders. Against a backdrop of concern for climate change, governments attempted to negotiate environmental regulations on a variety of areas with the primary goal of reducing carbon emissions. After years of absence during the Trump administration, the Biden administration was eager to let the world know that the U.S. has renewed its commitment to the 2015 Paris Agreement. A principal tenet of that agreement is for countries to take steps that help reduce global carbon emissions of GHGs, and ultimately achieve net-zero emissions globally by 2050. A key metric to achieve that goal is to limit global temperature increase to only 1.5 degrees Celsius by 2030. Carbon emissions regulations, increased use of renewable energy sources, and carbon capture technologies are all key components to achieve those goals. Recent U.S. legislation in the Biden Infrastructure bill, contains funding intended to help the U.S. follow through on its environmental commitments made at COP26. $241 billion targets electricity supply, transmission, and transportation. The funding was approved to be spent as follows:
The foregoing funding is just a down payment on the investment that will be necessary to achieve the goals committed to at COP26. Although the Biden administration had several other ambitious “green” energy programs included in the “Build Back Better” legislation, based on the stalemate in the Senate, that will not be proceeding forward at this time.
Inflation: As a result of the Covid-19 pandemic, inflation in many countries has spiked. In the U.S. the most recent CPI inflation reading is +7% year over year. Labor shortages globally are a key contributor. Sick workers and factory shutdowns globally are still problematic. In addition, due to massive supply and demand imbalances in the energy markets, increasing energy prices in 2021 have helped to fuel inflation. As the economy recovers from the pandemic, more people are traveling via planes, trains, and automobiles, and economic output is increasing. This has caused a corresponding increase in the consumption of power. Consequently, U.S. energy consumption is up +10% in 2021 vs. 2020. On the other end of the equation, U.S. oil and gas inventories in the U.S. have declined by -15% vs. 2020, and the number of active drilling rigs have declined by -50% vs. 2019 levels. This extreme disparity is not just affecting the U.S., but globally. A key contributor to the lack of global supply is anemic reinvestment in the oil and gas ecosystem by U.S. shale drillers, or “frackers”, and by OPEC members. Domestically, the lack of investment in fossil fuel is being caused by a decidedly less friendly reception from the current administration to such initiatives. While the reduced use of fossil fuels and the consequent reduction in GHGs would be a positive, there are certain drawbacks and consequences in the near term for these changes. When viewed through a “responsible investing” framework, it puts the current administration in a difficult position. On one hand, its policies pursue the laudable goal of reducing emissions, and deserve high marks from an environmental perspective. On the other hand, if its policies create even more inflation, this potentially contributes to greater levels of inequality, as this hurt those with less financial resources the most.
These dynamics are being further exacerbated by the recognition that clean energy is not yet as reliable as many of the modalities that it is intended to replace. In Europe and particularly in the U.K., a new challenge has recently occurred that is fueling energy price inflation. The winds in the North Sea have subsided dramatically. Consequently, the wind turbines are generating dramatically less electricity than what was originally contemplated. This issue is being compounded by insufficient energy reserves due to natural gas production being replaced by wind power. As an additional consideration, the “green initiatives” in various U.S. legislative bills will need to be funded either with debt or with tax subsidies. If these initiatives are funded with debt, that has the potential of boosting inflation even further. In an effort to reign in these inflationary pressures, this in turn may force central banks to raise interest rates higher. In the near term, the escalation of hostilities between Russia and the Ukraine is putting more pressure on the price of natural gas based on concern for potential interruptions in Russia’s supply of natural gas to Germany and other European countries. In summary, we believe it is vital that the U.S. works to improve its carbon footprint, as long it is approached pragmatically and in a thoughtful manner.
Renewable Energy Markets: Fossil fuels such as coal, oil, and natural gas are less attractive sources of energy from an environmental perspective given their GHG emissions. Legislation enacted by the Obama administration has largely phased out the use of coal as a fuel and heat source for U.S. power companies. In China, coal is still regularly used. Fracking in the U.S. became widely adopted in the 2010s, first applied to natural gas and subsequently to crude oil, and unlocked massive new reserves in the process at increasingly lower cost. It was so effective, that the U.S. energy industry became a net exporter globally and one of the largest producers of oil and gas in the world, causing the price for both to decline dramatically. Notwithstanding this considerable competitive advantage, the prospects are dim for oil longer term, and less so for natural gas even though it is the cleanest of the fossil fuels. These are challenges that not only the U.S. is grappling with but other countries as well. As an example, the Saudi Arabian energy industry is very large and integral to the Saudi economy. However, in an effort to begin the process of diversifying its economy, in 2019 Saudi Arabia used an initial public offering (“IPO”) to sell a portion of its state – owned company, Aramco, which is the largest energy producer globally. Saudi energy policy actions mirror the trend globally, to diversify away from fossil fuels and embrace renewable energy strategies. As part of this process, in 2021 Saudi Arabia did another notable IPO, to raise capital for ACWA Power, which produces alternate fuel sources such as solar, wind, and hydrogen. These are the largest CO2 emissions contributors:
Within those industry groups set forth below are some of the renewable energy alternatives that are being utilized and developed further that are designed to eliminate/offset or capture carbon emissions:
From an investor’s perspective, we believe the following industries and companies are possible beneficiaries of these global policy changes:
A few words about methane gas CH4: it is the most potent and harmful GHG emitted, and it lasts a decade in the atmosphere! Approximately 55% of methane comes from livestock, sewage treatment, and landfills. An additional 30% comes from oil and natural gas production fields. The following methane recycling and carbon capture strategies are highly effective but not yet widely deployed in the U.S.:
Unfortunately, some of these renewable energy strategies significantly increase the U.S. dependence on other countries. Chile and China are major global producers of copper that is essential for EVs and electric charging stations, while Chile, Australia, Argentina, and China are the major producers of lithium which is essential for battery storage. China is the world’s dominant producer of photovoltaic cells for solar systems.
In our opinion, abandoning the development of fossil fuels in the U.S. has environmental benefits but also has certain drawbacks as well. For instance:
At GYL Financial Synergies, a number of these alternative energy-based strategies are included in our allocations to equities, bonds, commodities, and alternative investments. A number of the investment managers to whom we allocate capital increasingly apply responsible investing criteria and standards that are considered as part of the investments that are made in the respective portfolios that they manage. At GYL our ability to offer clients an opportunity to align their investment portfolios with their values is a priority. In that regard, the next evolution of the energy markets is in its early stages. Taking a carefully crafted and diversified approach is the best way to participate in this paradigm shift.
About the authors: Scott Bogan is a Wealth Advisor & Capital Markets Strategist and Joshua Goldberg is a Wealth Advisor, and both work at GYL Financial Synergies.
Statement of Opinion: The views contained in this presentation represent the opinions of GYL Financial Synergies, LLC as of the date hereof unless otherwise indicated. This and/or the accompanying information was prepared by or obtained from sources GYL Financial Synergies, LLC believes to be reliable but does not guarantee its accuracy. The report herein is not a complete analysis of every material fact in respect to any security, mutual fund, company, industry, or market sector. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Past performance does not guarantee future results.
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