The one certainty about forecasting is that the forecaster will always be wrong. To try to predict the normal occurrence of random unconnected events that all influence where we will go and how the world will look is almost impossible… and the longer term the outlook, the more erroneous the forecast will look with hindsight. Bearing that in mind, I’ve been reflecting on what “tomorrow” will look like.

For starters, tomorrow and the next day will look much like today. Change is rarely revolutionary; vested interests usually prefer the status quo. Moreover, the sheer level of investment to maintain our world in its current unequal, unbalanced state cannot be tossed aside overnight. Consequently, most change takes place at an evolutionary pace that is slower than the radicals may wish for.

However, over the longer term – decades rather than years – the sheer amount of change that happens can look staggering. The energy transition will probably be similar.

HOSTAGE TO FOSSIL FUELS

The desire for the planet to be powered by clean renewable energy is surely the correct one. Nevertheless, for the foreseeable future, “dirty” fossil fuels will be an essential part of any energy grid. Indeed, to get to the bright new clean future, we will need a huge amount of fossil fuels over the next 20 to 30 years. Everything that needs to be built to enable renewable energy to power the world is currently hostage to our industrial processes that have been designed to be reliant on fossil fuels, and that will not change quickly. This is not to say that change will not happen. At some stage there will be a tipping point – the time when (probably imperceptible except in hindsight) our dependence on fossil fuels starts to lessen and clean energy increasingly becomes more the norm rather than the exception.

On that premise, where should portfolio managers be looking for growth in a world where money is no longer cheap and inflation can no longer be discounted as an irrelevancy?

RISK OF (NOT) SUPPORTING FOSSIL FUELS

To start with, don’t discount installed capacity. The two areas that have made well-publicised moves towards decarbonising are power generation and the automobile sector. But even within these sectors there exists, and will continue to exist, strong demand for fossil fuels. The 2021 report from the International Energy Agency still forecasts growth in demand for all fossil fuels for the next few years until peaks start to occur in the middle of this decade (for coal) or not until 2050 (for gas), depending on how seriously the world takes global warming and the 1.5°C target.

As the global energy crisis triggered by Russia’s invasion of Ukraine has demonstrated this year, the world needs energy and there’s not enough reliable clean renewable energy available at the moment. This has seen demand for fossil fuels skyrocket, with European natural gas and South African coal prices reaching all-time highs in early 2022. With a huge reluctance on the side of the financial industry to be seen to be encouraging new investments in fossil fuels and current production depleting at its normal rate, industry incumbents will probably benefit from prices that remain way above historical norms for a while yet.

Their end will come, but the installed base for everything that needs fossil fuels – think power generation, cars, aeroplanes, ships, chemicals etc. – isn’t disappearing in a hurry. Even in automobiles, while there are some well-publicised alternatives to the internal combustion engine, electric vehicles (EV) are likely to make up, at most, 15% - 20% of the total cars on the road by 2030. This leaves over 80% of all cars driving around in 2030 still needing fossil fuel to get around.

Investing in the transition Another option for portfolio managers is to look at what the energy transition needs to make it happen. Using Wood Mackenzie’s1 current forecasts for the energy transition, to keep global warming to less than 1.5°C usage of everyday metals such as copper and aluminium will have to grow by 100% or more between now and 2050. Slightly more exotic metals like nickel will see growth of 200%, while lithium (essential for EVs) should see up to 500% growth. Can this happen? Consensus is a bit vague here, but with a combination of new projects and recycling, most commentators think that these quantities of metal can be supplied to the market – provided prices move above historical levels even in real terms. When will this happen? Again, a little murky, but consensus is that for most metals there is sufficient availability for the next few years, so prices should stay within reasonable levels. In the second half of the decade though, as the Green Transition picks up speed, there will not be adequate availability. Most mining companies have some investments in new projects or expansions, but the industry as a whole doesn’t have anywhere near enough installed capacity to supply expectations for 2030, as an example. When demand outstrips supply, prices react – see my earlier reference to coal and gas prices in 2022, as an example.

Some of the known unknowns:

• Can green hydrogen (potentially very good for South Africa and the platinum industry) be made into a viable alternative in the chemicals industry, the steel industry and for home heating, among other things?
• Can carbon capture and storage (CCS) be made to work economically enough to be a help (this should benefit the current installed industry)?

It is certainly not a case of one technology solving all our problems. Most forecasters believe only the use of multiple technologies will help to alleviate the rise of CO2 in the atmosphere.

And the unknown unknowns?

While this is obviously a place of interest, portfolio managers really shouldn’t be putting pension fund money to work in this space.

In the short term, we are facing an energy shortage and the hope that renewables can fill that gap quickly is largely wishful thinking. We will need fossil fuels. Over the medium to longer term, renewables will continue to displace fossil fuels, especially in power generation and automobiles. At the same time, these uses will be a vast consumer of commodities, pushing commodity prices above their historical price ranges as new investment is sought. Importantly, this doesn’t mean the end of boom and bust for the mining industry. Rather, it just exaggerates the effect. This transition will not come without cost. The days of cheap power (pre-2020) are probably gone for good, but steady, reliable clean power would be a decent substitute for the current situation.