Energy markets are experiencing their own March Madness, notes Phil Flynn, senior market analyst at ...
A cynical guide to profits from fighting global climate change
12/22/2009 8:30 am EST
Oh, not because any of the countries that the signed on to effort at global saving face have committed to actually do much of anything. But because the very inadequacy of this agreement forces all meaningful action back onto national governments.
If you want to know where the profits—and costs—of global climate change will be for the next decade, then I think you need to study not the technologies of climate change but the nature of the governments and economies that will stumble toward addressing this problem.
The nature of the U.S. economic and political system, for example, tells an investor a great deal about how to make money on global climate change in the next few years.
Sometimes looking at the challenges of global climate change I think this problem was designed by some mad economist temporary sitting in God’s chair: It plays to just about every weakness in capitalist market economies.
Shall I count the ways?
First, you can’t prove that global climate change is happening, or that it’s caused by human activity, or that the consequences will be a disaster. And that leaves plenty of room for honest dissent. And for pandering dishonest dissent too.
I think the models point in that direction. I think the best explanation for the data is that it is man-made. And I think that extrapolating from current trends such as the drying of California, sub-Saharan Africa, and Australia makes a good case that global damage if we don’t do anything is actually going to be greater than the $9 trillion estimated in the 2006 Stern report.
But is any of that absolutely certain? No way. The climate is a complex system that we don’t understand very well. All we can say, if we’re honest about it, is that the theory that man-made carbon dioxide and other greenhouse gases are warming the planet and creating a massive change in our climate fits the facts better than other theories.
That leaves the United States well short of a consensus. And if you need a refresher to what happens to our political process when you don’t have a consensus just look at the nearly terminal disfunctionality of the U.S. Senate on healthcare in the last few weeks.
Second, because global climate change is a really, really complex theory where the outcomes are incredibly sensitive to small changes in initial conditions and the relationship between variables, it’s really hard to put a cost on either the cost or the benefit. The 2006 Stern Report estimated the cost of a 3 to 4 degree Celsius rise in the average global temperature at $9 trillion. I don’t know whether the hundreds of millions of people likely to be displaced or who might starve to death under that scenario would agree with the report’s total. And, of course, those who don’t believe that global climate change theory is correct would put the benefit at $0. On the cost end I’ve seen everything from $20 billion (based on fixing the problem with a solar umbrella to $10 trillion. Put those numbers in your cost benefit analysis and you can justify every conclusion from spending nothing to spending whatever it takes.
Third, this is one of those pay now in real hard cash for hard to quantify benefits later situations that market economies are so terrible at pricing. How much would you pay today to avoid a broken leg tomorrow? That’s easy. You’ve got some idea of how inconvenienced you’d be, what services you might have to pay for, your tolerance for pain, and what’s on your schedule that you’d have to postpone or cancel if you broke a leg. But now let’s make the problem harder. How much would you pay today for a 60% chance of a broken leg? Or a 50/50 chance that the broken leg happens to either you or your neighbor Fred? Or that it’s an 80% chance of a broken leg, a 15% chance of two broken legs, and a 5% chance of death?
I live in New York City. One potential climate change scenario is that the melting of the Greenland ice cap sends so much fresh water into the northern Atlantic that it stalls the Gulf Stream. One possible result (possible because it has happened before—look up Younger Dryas) would be to cover parts of North America, including New York and Europe (including the United Kingdom) with glacier. What would I pay to avoid that tomorrow? Well, tell me how likely it is, for a start? And then I’ll fork over some tax money for a fix.
Fourth, we’re actually not talking about how much I’d pay now to avoid a disaster to myself. We’re talking about cash for kids, here. If the computer projections are right, we need to take decisive action within the next 20 years or we pass a tipping point that makes it extremely difficult (and even more horrendously expensive) to fix the problem if it’s then fixable at all.
In other words, if I don’t put up the cash now, my kids or their kids are going to either learn a lot about how to dig a snow cave—really deep, right Larry?—or they’re going to inherit a beach front apartment on what is now the third floor in northern Manhattan.
I could go on but I think even those four problems suggest the shape of any potential global climate change solution here in the United States and globally.
Since in the United States we don’t have anything like a political consensus on the nature of the problem or what to do about it, any solution will be the result of intense political horse-trading. Remember how the Democrats got Louisiana Senator Mary Landrieu to vote for cloture on healthcare? That put $300 million into the bill earmarked for Louisiana.
Anything that emerges from the U.S. Congress will be a grab bag of goodies for this industry and that, with the biggest share of goodies going to the most powerful industries: utilities, agribusiness (and no I don’t mean family farms), and oil and chemical companies. Alternative energy will get thrown a bone—so it won’t look quite so much like the give-away that it is but you can estimate the size of the bone from the $5 billion that the Obama administration has just proposed in a new jobs initiative as its big commitment to creating green jobs.
$5 billion? That’s just five times the cost of the new Dallas Cowboys football stadium. The people of Arlington, Texas, voted to raise the sales tax, the hotel tax, and the rental car tax to kick in $325 million in taxpayer dollars to the construction of a stadium that Cowboys owner Jerry Jones has compared to Rome’s Coliseum. Surely, I’m not suggesting that U.S. taxpayers would be unwilling to pay $5 billion for a green jobs initiative but willing to pay $325 million for a football stadium?
Of course, I am. For reasons two, three, and four above. Football stadiums provide an immediate and tangible benefit. You don’t have to wait for your kids to enjoy them. You can buy tickets now. (So what if you have to mortgage your house to buy a season ticket package. The kids will be better people if you don’t leave them anything.)
So whatever funding the United States government does provide toward fixing global warming is going to be the form of the least obviously painful tax or fee possible. Even if it is horrendously inefficient and perhaps ineffective.
So stop worrying about a carbon tax. Too obvious.
It’s cap and trade or nothing. Such a program of creating tradable credits earned by companies for reducing carbon emissions that can then be traded—for money—to companies that have exceeded their carbon limits fits in well with the log-rolling needed to get a bill passed. Need to diffuse industry opposition? Give them a bushel basket of cheap carbon credits that they can sell. ey Hey, if it works in the U.S. Senate, it should work with CEOs too, no?
Of course, cap and trade hasn’t exactly built a sterling track record around the world. The United Nations program designed to encourage emissions reductions in the developing world that can then be sold in the developed world has run into problems since a sizeable percentage of projects, the United Nations has suddenly discovered, would have been built anyway. According to the rules projects like that aren’t supposed to earn credits. But many did. (Ah, bureaucracy. The only thing worse than an inefficient market economy is an inefficient bureaucracy. Or maybe it’s the other way around.)
And in Europe, the European Union program initially granted so many credits that market prices are too low to encourage much in the way of alternative energy development. Right now carbon credits trade for about $20 per metric ton on the European Union’s system. According to estimates by the Carbon Trust, co-fired biomass needs a carbon price of $105 a metric ton to be financially viable with current energy prices. Onshore wind power needs a carbon price of $190 a ton, offshore $360 a ton. Solar photovoltaic needs $835 a ton.
Don’t hold your breath waiting for those prices. (Or maybe that’s the idea: If we all stopped breathing, then that would reduce global carbon dioxide emissions.)
So where does this leave you as an investor?
- Convinced that Congress will pass something that addresses global climate change. The move by the Obama administration’s Environmental Protection Agency to set rules for carbon-dioxide and other greenhouse gases as pollutants under the Clean Air Act guarantees that Congress will act. Industry is almost positive that they can get a better deal from Congress than they will get from the EPA. So much of industry will start telling its lobbyists to start working for climate change legislation. (For an example of how this will play out, look at the recent Healthcare “Reform” legislation.)
- Running toward carbon intensive companies in politically powerful industries. Especially if they are developing some real green technologies as well. American Electric Power (AEP), which I just added to my Dividend Income portfolio, is one. DuPont (DD), another Dividend Income pick is another. Dow Chemical (DOW) is worth a look. (For more on picking utility stocks see my post http://jubakpicks.com/2009/12/11/new-rules-for-investing-in-utilities-the-risks-and-rewards-are-up/ )
- Looking for alternative energy companies that are near breakeven or promise to get to breakeven quickly so they’re not dependent on consistent, long-term government support. (And are therefore likely to be around on the day that the global warming methane producing by-product of cattle production hits the fan and the government launches a crash program to save us all.) In the solar sector First Solar (FSLR) and SunPower (SPWRA) are both operating cash flow positive.
- Focused on the solutions that don’t need taxpayer money because they actually make money now. Intelligent utility metering companies such as Itron (ITRI) or building energy management companies such as Jubak’s Pick Johnson Controls (JCI) belong in this group.
- And cynically trying to identify companies that provide cheap quick fixes—or at least fixes that can be made to look cheap with accounting magic. I think natural gas falls into the category of real cheap fixes since it’s cheap to build a gas-burning power plant and replacing a coal plant with a natural gas plant does reduce emissions—I’d look at Ultra Petroleum (UPL) and Devon Energy (DVN) in that sector. (For more on the trends in natural gas see my post http://jubakpicks.com/2009/12/14/exxonmobil-buys-u-s-natural-gas-for-31-billion-i-told-you-this-was-a-big-trend/ ) Nuclear can be made to look cheap—as long as you don’t include the costs of decommissioning or storing nuclear waste until humans are replaced by cockroaches. Here you might look at a nuclear-focused utility such as Exelon (EXC).
And, of course, you shouldn’t forget to invest in Chinese companies tackling the problem. Chinese leaders, who aren’t troubled with problems of 60-vote margins in the Senate or being excoriated by electoral opponents for raising taxes, have targeted alternative energy technologies as a global growth market they want a big piece of. The obvious choice here is Suntech Power Holdings (STP), which has recently announced that it will build a production plant in the United States. The most intriguing plays in China are those that combine that kind of practical mercantile economics with national pride. I’ll have a few suggestions like that in a post-Christmas post.
So don’t get distracted by arguments at the Copenhagen conference about whether the world’s rich nations should give the world’s developing nations $20 billion or $100 billion a year in aid help them move their economies to a low carbon emission path.
Global climate change is indeed all about the money. But it’s not the money you can see but the money you can’t that sets the rules of the game.
Full disclosure: I own or control shares of Devon Energy, Johnson Controls, SunPower, Ultra Petroleum, and one share of American Electric Power in my personal accounts. And I am not a Giants or Jets fan.
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