A Basic Premise: More Economic Growth Requires More Energy
As the global economy grows or declines, energy consumption moves in lockstep. For example, when the global economy shrank by 4.0% in 2020 (thanks to the pandemic), global energy usage declined by 3.1% [1]. The regression model between these factors is one of the strongest that you will encounter in the world of statistics.
Sources: World Bank national accounts data, 2021 and BP Statistical Review, 2022
We believe that the world’s energy needs will continue to grow. Why? Because we are optimists at heart. We believe that the 7 billion people on earth that do not live in Europe, North America and Japan desire an improved standard of living [2]. For a citizen in Asia, it might be upgrading from a motorcycle to an automobile for transportation. For a business in Latin America, it might be a new modern factory. Sadly, for the most impoverished people, it might be using propane for cooking instead of collecting firewood. Economic growth moves people out of poverty and as illustrated by the chart above, energy growth accompanies economic growth.
With the drive for electrification and carbon neutrality, power generation will take on increased importance for the foreseeable future. EVs, cell phones, heat pumps, battery storage, data centers and AI will dramatically increase the demand for electricity in the coming decades. On the positive side, new technologies may dramatically improve energy efficiency, thereby reducing demand. However, we believe that the fundamental premise will remain true. As people advance up the economic ladder and economies grow, energy usage in the aggregate will grow in lockstep. It is possible the correlation may not be as strong, but it will still be very relevant.
Where Does Energy Come From?
Historically, the world’s energy needs have been met by the hydrocarbon trio of coal, oil, and natural gas. In 2000, 86% of the world’s energy needs were met by hydrocarbons. Two decades later, we used 52% more energy in 2021 than we did in 2000. However, after years of dedication to the green energy revolution, the world’s energy is still 82% supplied by the hydrocarbon trio. On an absolute basis, we are using significantly more natural gas (69%), oil (23%), and yes, even coal (7%) over the last twenty years [3].
One important note about energy; we do not refer to electricity as a source of energy. Electricity is generated primarily by coal, natural gas, nuclear, hydro, solar and wind. It is a conduit of energy, but not a source. As an example, a Tesla EV runs on electricity. The electricity used to power the EV could be sourced from wind and solar, or coal and natural gas.
Over the last twenty years, we have seen great strides in the rise of renewable powers. Global solar electricity generation has increased 300% since 2015, and wind generation has increased 124% over the same time period [4]. While these growth rates are impressive, they cannot be expected to continue longer term as the installed base of production continues to grow larger.
Nations (especially developing nations) primarily focus on energy availability, affordability, and security. If these three criteria are met, then (maybe) climate issues will be considered. Europe is a prime example of this after the Russian invasion of Ukraine. Before the invasion, energy was readily available, affordable and easily securable. Green energy was heavily touted. After the invasion, Russian oil and gas supplies became unavailable, and natural gas became very expensive. As a result, some EU members increased their consumption of coal (as well as alternative energy) [5]. The main reason being that coal was available and much more affordable than natural gas.
What Does That Mean for Our Investments?
We believe there will be increased demand for all energy sources. For the time being, this will include the hydrocarbon trio, even coal. Nuclear power and renewables will also continue to grow. This provides a wide range of opportunities for investors. Global macro trends are constantly shifting in the broader natural resources sector. A commodity cycle can last for a decade and there are dozens of commodities with hundreds of different drivers of supply and demand.
Natural gas, for example, is in a regional bear market in North America, but in the longer term is tracking to become a truly global commodity. As a result, we have avoided North American natural gas producers and focused on midstream and LNG companies that are paid to move hydrocarbon molecules.
Metals and mining, out of favor for over a decade, will be a major beneficiary of the increasing demand for electric vehicles and renewable power; technologies that use increasing amounts of copper, nickel, and cobalt to name just a few minerals. Each one of these commodities has significantly different market dynamics.
Onshoring of key supply chain elements and hardening the power grid in the United States will lead to significant demand for basic materials, power generation equipment and services, as well as the industrials segment. Government programs such as the IRA, IIJA and Chips Act will speed significant infrastructure builds.
Conclusions
However you refer to today’s energy environment (the Green Revolution, the next Commodity Supercycle, or “Business as Usual”), understand that the dream of the future is currently at odds with the physical realities of the world we live in. Transitions in software or computing power are relatively fast; transitions in energy take decades. For investors with long-term horizons, a wealth of opportunities awaits. Our job at Lear Investment Management is to properly identify these opportunities and understand the correct timeframe for our investments.
Disclosures
LIM is a Registered Investment Advisor based in Dallas, Texas and registered with the Securities and Exchange Commission. Registration does not imply a certain level of skills or training. LIM is a company with purpose, dedicated to creative and unique thinking. We focus on portfolio valuation and research, along with superior client experience. We seek to identify investment opportunities by looking at economic factors, security valuation and human behavior. We start with the fundamentals of portfolio management and valuation. Then we build on these fundamentals with unique thinking and creative intelligence gathering to form a viable investment thesis. We believe this approach leads to dynamic global portfolios with increased return and managed risk. LIM utilizes Charles Schwab & Co. Inc. (“Schwab”), a FINRA-registered broker-dealer, member SIPC, as its custodian of assets. LIM is independently owned and operated and not affiliated with Schwab.
Additional disclosures:
This document may contain forward-looking statements based on LIM’s expectations and projections about the methods by which it expects to invest. Those statements are sometimes indicated by words such as “expects,” “believes,” “will” and similar expressions. In addition, any statements that refer to expectations, projections or characterizations of future events or circumstances, including any underlying assumptions, are forward-looking statements. Such statements are not guaranties of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict. Therefore, actual returns could differ materially and adversely from those expressed or implied in any forward-looking statements as a result of various factors.
This material represents an assessment of the market and economic environment at a specific point in time and is not intended to be a forecast of future events or a guarantee of future results.
Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions.
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