The energy transition – the world’s efforts to replace fossil fuels with low carbon energy sources – is well underway.
Solar and wind generation now account for more than 10 per cent of global power generation, up from effectively zero just 10 years ago.
This growth has been catalysed by declining costs of renewables and broad political and regulatory support to decarbonise.
As part of ongoing decarbonisation efforts, more than 70 countries globally have signed net-zero pledges; these account for roughly 76 per cent of global emissions, according to the UN.
Underpinning support for renewable investments are government-backed policies, such as the US Inflation Reduction Act 2022, which offers substantial tax credits for renewable development.
As a result, we see an increasing number of infrastructure companies, particularly electric utilities and renewable developers, as beneficiaries of the commercial opportunities the transition offers.
Net-zero targets
Despite all the tailwinds renewables are enjoying today, we believe 2050 net-zero goals are largely unrealistic given grid reliability and structural supply chain challenges.
This delayed energy transition will result in a long, useful life for conventional generation. Specifically, we believe natural gas will remain critically important for home heating and power generation. In essence, the market is understating the cash flow durability of traditional generation.
Investors must therefore strike a delicate balance between investing for the future and appropriately valuing critical fossil-based infrastructure today.
It is our belief that traditional energy sources, such as oil and gas, will play an important role for decades to come, as completely shifting to net zero would be impractical for a number of reasons.
The prolonged energy transition will create ongoing challenges for companies straddling the line between investing for a low-carbon future while maintaining the infrastructure needed to support traditional energy.
Investment opportunities in the energy transition
Two sub-sectors where we see considerable opportunity are electric utilities and midstream energy.
Electric utilities will not only be the largest owners of renewable generation, but they will also be tasked with upgrading the electric grid to accommodate and integrate new energy resources.
These concepts – transmission and grid modernisation – will create substantial investment opportunities and higher earnings power for the sector.
Indeed, the International Energy Agency’s 2022 five-year forecast for renewable capacity additions increased 30 per cent over its 2021 forecast.
Select utilities may also benefit from extending the lives of existing conventional assets. Restarting nuclear reactors in developed nations underlines the point that traditional energy will be part of the longer-term generation solution.
Specifically, Germany, France and Japan are assessing whether to extend the lives of their nuclear fleets. We note that the Inflation Reduction Act includes a tax credit for nuclear energy as well as renewables.
