Eddie

On Oil, Renewables and Pension Funds – nine months on

Eddie O’Connor and Adam Bruce return to look at the impact of plunging oil prices, new technology, and the resilience of renewables nine months after their original article published in January 2015.

Some commentators forecast that the fall in the global oil price at the start of 2015 would imperil investment in renewable energy. However, as the authors argue, the trend is in the opposite direction, with clean energy investment, coupled with innovation in technology, delivering value to consumers across a large number of markets. Oil and gas companies continue to struggle to create value for their investors, and leading petro-States rein back public spending in the face of reduced revenues. Institutional investors, faced with holding stranded assets in companies with high carbon inventories, continue to shift resources to low carbon alternatives.

In January 2015 we wrote a short review of the investment horizon for institutional investors with an appetite for energy assets. We noted that USD40 trillion will be invested in energy over the period to 2035. That equates to USD2 trillion per year. We asked whether these investments would continue to support global oil and gas industries or if they would seek out value and growth in the world’s renewable energy and clean technology sectors?

Mark Carney, Governor of the Bank of England

Mark Carney, Governor of the Bank of England

Mark Carney, the Governor of the Bank of England, asked a similar question in his remarkable speech in London on 29 September, when he observed that, “financing the de-carbonisation of our economy is a major opportunity for insurers as long-term investors. It implies a sweeping reallocation of resources and a technological revolution, with investment in long-term infrastructure assets at roughly quadruple the present rate.”

Our conclusion was that that reallocation was underway, and that global funds are already hunting for opportunities in clean energy. Nine months after writing the original piece we have returned to the issue both to review the original thesis, and to observe further trends which illustrate this once-off investor transition to sustainability.

Let us begin in the Persian Gulf. To the north, the Islamic Republic of Iran prepares to restart its oil exports, after the lifting of sanctions related to the development of its nuclear programme. In late August Oil Minister Bijan Namdar Zanganeh stated that his country intended to reach pre-sanctions levels of exports by spring 2016, which ran at one million barrels a day. To the south, a report in Bloomberg published at the time of the Iranian statement indicated that due to the continued slump in the oil price the Kingdom of Saudi Arabia will “look at cutting investment spending, estimated to be about 382 billion riyals (USD102 billion) this year, by about 10 percent or more… Current spending on areas such as public sector salaries wouldn’t be affected.”

At the same time the Norwegian Oil Minister Tord Lien said that “Crude at USD40 a barrel is unsustainable and prices will have to rise as supply drops out of the market”. On the evidence from the Gulf, that is highly unlikely. Compounding the glut in supply, is a weakening in demand in South East Asia, which appears to have caught a summer cold on the back of falling output in China. This is likely to be a short-term correction, with growth resuming towards the end of the year, but by late August the Shanghai Composite Index had lost over one quarter of its value since peaking in the middle of June.

As we pointed out in January, investors in oil and commodities companies face a share price fall, “in response to the collapse in the oil price, and a significant contraction both in capital and income growth, as the oil majors face a halving of returns on equity from around 10% in 2014 to 5% in 2015”. This trend has not changed in the intervening period. The 60% fall in Glencore’s share price since the start of 2015 is but one example of the impact of increased risk and volatility across the oil and commodities sectors this year. Shell’s decision not to proceed with its oil exploration in the Arctic is another.

In August US coal producer, Alpha Natural Resources filed for bankruptcy with Bloomberg quoting its CEO predicting “continuing failures of major companies in the industry as a result of collapsing demand and pricing”.

In late August the IEA published its 2015 Natural Gas Information. This revealed two further facts in support of the weakening fundamentals for fossil fuels. While production is growing; in 2014 “global production of natural gas hit a record high of 3 524 Billion cubic metres”, global demand is falling. In the OECD “natural gas demand for power generation decreased substantially (-4.4%). This is mainly attributable to slow electricity growth and a continued and robust deployment of renewables, which seem to offset the effect of several shutdowns of coal-fired plants in both Europe and the United States.”oecd

In markets where electricity demand is rising – and where it is presently under-served, or unserved, the contribution of renewables is particularly valuable. In South Africa the government’s renewables procurement process, the REIPPPP, has delivered significant amounts of new electricity onto the grid to provide power which has helped to alleviate load-shedding. The three “abilities” of new wind and solar power – affordability (cheaper than new coal, gas or nuclear generation); deliverability (from procurement to generation in under two years); and, reliability (matching output to the daily demand curve) – has brought significant economic benefit. A report from the South African Council for Scientific and Industrial Research, published in August found that the REIPPPP programme created ZAR4 billion more financial benefits to the country than it cost during the first six months of 2015.

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michael lThese trends in the electricity sector can also be spotted in transport. Also in August, the leading commentator Michael Liebreich wrote a deeply thought provoking article on the future of the global energy sector, where he observed that: “Transportation too is going to be transformed, and this will shake the oil industry to its core. More than half of the world’s population now live in cities, and cities around the world are blighted by the impacts of fossil fuel combustion on air quality, and by the impact of personal vehicles on quality of life. The shift is unstoppable to electric vehicles, public transport, walking and cycling, shared ownership and other, cleaner options.

As the energy system goes clean, so it will become more local, more human in scale and more digital.”

transportation

This inevitable transition to a digital and local energy system is a phenomenon we noted last year when we asked readers to:

“Imagine your home in a few years’ time. You have an electric vehicle parked outside. You have solar PV panels on your roof and a small stationary battery in the garage, or you share one in a district scheme with your neighbours. The EV charges at night, and smoothes the demand curve. The battery stores excess solar electricity generated in the middle of the day and passes it back to the grid in the evening. In the morning, or at other periods of low generation, a combination of other renewables – mainly wind and biomass – drawn from remoter areas over an hvdc grid, fill in the gaps.”

One of the trends to have continued since we wrote the piece in January has been the onward march of storage, within the context of continued development in demand side management. A piece in the UK’s Daily Telegraph in August, entitled Why your kettle could take longer to boil when the wind isn’t blowing, was a review of a successful trial of voltage reduction by Electricity Northwest, which estimated that if this particular process were rolled out across the UK, it could shave demand by 4GW. Had their customers objected to this interference in their electricity supply? According to Paul Bircham, network strategy director at the company, “Nobody notices”.

In addition to voltage control, the wider provision of ancillary grid services, including frequency regulation, is one where battery technology can and is playing a growing role. ReCharge reported in September that a number of energy companies including EDF, AES, RES and Canadian Solar, have all diversified into battery-based ancillary services, with AES bringing 200MW of grid-scale batteries on line this year.

The importance of this use of battery technology is that it will enable grid operators to bring larger amounts of variable renewable generation on line into existing power networks, while using it to deliver “smoothing”, more cheaply than commissioning new fossil fired reserve. ReCharge also forecasts that battery storage will erode the role of gas peaking plant, and pumped hydro, in providing larger amounts of back-up power or capacity reserve for the grid. It points to the recent auction for capacity “necessitated by the sudden closure of the San Onofre nuclear plant near Los Angeles”. The local utility sought bids for 2.2GW of capacity, and the winning bids included 260MW of battery storage.

It is the flexibility of uses of batteries that holds the key to its future growth. In the same article, Ali Nourai, of DNV GL, argues that the industry is waiting for “that Apple-like company to offer four or five values at the push of a button…What’s needed today is smart software, not cheap hardware”. If a battery unit can provide a range of ancillary services as well as backup and load shifting, then it becomes deeply valuable to the grid operator.

The development of new technology – and new solutions – within the demand management sector; whether storage on one side, or demand response on the other; is a sign of the growing maturity and sophistication of renewable energy. It also signals that industry is investing in R&D, and bringing forward new technology, as it sees a growing global market. This is an interesting counterpoint to those voices, mainly in the UK and the US, who call for a reduction in support for renewables while investing instead in R&D, as if it were a binary decision. Industry is doing both already – deploying new capacity more quickly and cheaply than new fossil plant in many markets, and developing new technology that enables even more capacity deployment, and the provision of additional grid services.

R&D

So, what do we conclude, nine months on from our first review of the impact of the low oil price on the global renewables market?

That we are in a low oil price environment, and this is likely to prevail for many months yet. That the move from fossil power to renewable power continues, with many markets – especially growth markets – seeing clear economic benefit in that transition. That the continued development of storage, and wider demand management technology, is providing grid operators with the hardware and software to enable them to integrate more variable generation.

This is not a temporary phenomenon; the transition is inexorable and inevitable.

Dr Eddie O’Connor is the founder and CEO of Mainstream Renewable Power. In 2003 he was named World Energy Policy Leader by Scientific American magazine. Adam Bruce is Global Head of Corporate Affairs at Mainstream Renewable Power and co-Chairman of the UK’s Offshore Wind Programme Board.

This paper is part of an occasional series of opinion pieces from Mainstream Renewable Power. We welcome comment on the online version of this paper which can be found at www.mainstreamrp.com or on Twitter @mainstreamrp.

 

 

 

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