With the energy sector in flux, the growth of renewables, and a rising public outcry in many regions against the potential hazards of fossil fuels and their production, investors need to tread carefully as opportunities shift and risks surface. This article, the second in a series, looks at some of the pitfalls and possible opportunities in the fossil fuel sector.
The increase of ever more violent weather phenomena such as Superstorm Sandy has spurred greater concern over climate change, and that has narrowed the focus on coal in particular. Coal has been the primary source, globally, for electricity, providing 40%, according to the Energy Information Administration (EIA); its use has also increased by more than 50% over the past 10 years.
The EIA projected in July that coal’s use would grow by a third by 2040, with developing countries increasing their use of it. But other parts of the world are turning away from coal and actively discouraging its use, thanks to its status as the largest generator among major fuel sources of carbon dioxide per energy unit entering the atmosphere. Coal is looking more and more in many quarters like a problem rather than a solution, and wealthy countries are withdrawing government funding for coal elsewhere in the world, leaving its use in developing countries threatened in many places.
Global lenders have also begun withdrawing support from coal projects, with first the U.S. Export-Import Bank , then the World Bank and finally the European Investment Bank halting support of coal-fired plants and turning instead to renewables. There are some exceptions; for instance, the World Bank is still considering a Kosovo coal project.
Over the past five years those three institutions have provided over $10 billion for coal projects; the absence of that much money will certainly be felt. Oil Change International data indicate that the U.S. Export-Import Bank provided $1.4 billion in financing to two coal projects in India and in South Africa, while the World Bank accounted for some $6.26 billion in coal project funding during the period.
Coal companies are feeling the squeeze, and so, now, are investors as well. Analyst Christian Lelong at Goldman Sachs Australia said in research that the “window for thermal coal investment is closing,” and that “[e]arning a return on incremental investment in thermal coal mining and infrastructure capacity is becoming increasingly difficult.”
In a late July report, Lelong stated that despite the fact that coal presently is the top fuel used for power generation, it will be losing that market share because of three main trends: environmental regulations that will discourage its use, competition from gas and renewable energy sources, and improvements in energy efficiency. Weaker demand growth and seaborne prices near marginal production costs will mean that “most thermal coal growth projects will struggle to earn a positive return for their owners.”
LeLong stressed that “even when carbon prices are low or nonexistent, the downside risks of future regulation can offset the cost advantage of thermal coal relative to alternative energy sources.” And despite the fact that demand continued strong in India and southeast Asia, “the number of new plants is expected to decline by the end of the decade and the energy sources with the most upside potential include gas and solar power,” he stated.
Of course, such change won’t happen overnight. According to the World Resources Institute, 1,200 coal-fired plants are in the planning stage across the world, with more than 75% of those scheduled to be built in India and China. But WRI says it is unlikely that all 1,200 will be built.
Still, China, which produces the lion’s share of the world’s coal and is also its largest importer, doesn’t need to rely on outside funding to build coal-based projects. India, too, uses foreign money only rarely for power infrastructure projects. So demand will continue in some quarters. And Japan has been relying more heavily on coal since the Fukushima disaster destroyed much of its nuclear generation capability.