A New Plan for Energy Investing

05/27/2011 9:00 am EST

Focus: STOCKS

Jim Jubak

Founder and Editor, JubakPicks.com

With nuclear fading and wind proving problematic, the best energy plays now are in solar, natural gas, and even coal. Also, some companies worth a look.

In the middle future—say, the next five years—the energy sector landscape looks like it will be very different than the forecast just a year ago.

  • Nuclear energy seems to be, if not dead, on life support.
  • Grid-distribution problems have hit wind power even harder than predicted.
  • Solar companies are driving costs down and efficiencies up faster than all but the most optimistic advocates forecast.
  • And while natural-gas prices remain so low that it's hard for gas producers to make a profit, the makers of equipment for generating electricity from natural gas are experiencing boom times.

It's tempting to put this all down to Japan's Fukushima Daiichi nuclear disaster (or near-disaster, if your definition of a nuclear disaster requires molten nuclear fuel burning its way toward the Earth's core).

The operator of that nuclear plant, Tokyo Electric Power, now acknowledges that three of the plant's four reactors suffered fuel meltdowns in the days after Japan was hit with a devastating earthquake and tsunami.

The company also says it's possible that the pressure vessels that house the uranium fuel rods were breached in the disaster. But "most" of the fuel remained inside the pressure vessels, the company adds not so reassuringly.

You could blame the new energy landscape on the Fukushima Daiichi disaster, but I don't think that's the case. A lot of independent causal factors are at work here. Japan’s disaster remains a good place to start any effort to put all those factors into a single picture, though.

Europe Is Rethinking Nuclear
Not surprisingly, the disaster at Fukushima Daiichi has led to a lot of rethinking of national nuclear plans around the world.

Some of that rethinking amounts to little more than reassuring. I'd put the European Commission's recommendation that national nuclear regulatory agencies inside the European Union conduct stress tests of the 143 nuclear plants operating in Europe in that category.

Environmentalists are rightly skeptical of the rigor of tests administered by the pro-nuclear governments of the United Kingdom, France, and the Czech Republic. Reports from the negotiations show these countries fought hard to water down the plan. You can think of this stress test as the nuclear version of the banking-sector test that saw almost every European bank pass.

But some of the rethinking has resulted in meaningful action. Switzerland has decided to put plans to build three new nuclear power plants on hold. It also plans to decommission—that is shut down and entomb and/or disassemble—the country's five operating plants.

The Fukushima Daiichi disaster came at a crucial time for the nuclear-power industry. First, many power plants are reaching the limits of their agreed-upon lives.

And second, the industry, after decades when no one built a nuclear plant, was revving up for a surge of construction based on new, theoretically safer and more standardized, designs. (The last US nuclear plant to go into commercial service was in 1996. The last French reactor before the current wave of construction was built in 1999.)

Fukushima Daiichi changed all that.

Germany, where Chancellor Angela Merkel had pushed through an agreement to keep the country's aging reactors running for an additional 12 years (through 2036), shut down all seven of its nuclear plants that went into operation before 1980 in the wake of the disaster in Japan. Now Merkel is looking to close the country's ten remaining reactors between 2020 and 2025.

NEXT: The US Is Rethinking, Too

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The US Is Rethinking, Too
In the United States, the Nuclear Regulatory Commission announced May 19 that it had found design flaws in plans for a new generation of passive safety reactors designed by Westinghouse.

Passive designs promise to be a huge improvement over older reactors—while the reactors at Fukushima Daiichi depended on active safety systems that required electricity to keep pumping cooling water, passive designs have safety systems built around gravity and convection that don't require electricity to keep operating.

But, the agency has said, computations submitted by Westinghouse for the design of the reactor-shield building appear to be wrong or incomplete.

The commission was on schedule to finish its review of the design by the summer, and its backer, Southern (SO), has already dug foundations for two Westinghouse reactors near one of the utility's existing nuclear plants. (South Carolina Electric and Gas has also broken ground for two of reactors of this design.)

But now the commission is talking about an unspecified delay, while Westinghouse submits another round of calculations. Southern had projected that it would receive a construction and operating license by the end of 2011, and that it would have the first reactor online by mid-2016.

If a country decides to shut down its nuclear plants, or to delay building new ones, it has to find replacement sources of power. Right now, that means some mix of alternative sources, such as wind and solar, and conventional sources, such as coal and natural gas.

The Problems with Wind
Wind’s problems focus on the distribution grid, which was built to get electricity from the places where conventional and nuclear power plants produced it to where the customers are.

Unfortunately, the world's windiest places—western China, or the US high plains, for example—are often far from customers, and require electricity to flow in new directions.

In Germany, the grid was designed to take electricity north from nuclear power plants located in the south. When those power plants go offline, electricity will have to flow from north to south or from east to west—and the grid wasn't designed with those flows in mind.

This has led to a slowdown in wind-power installation—and promises to extend the grid to fix the problem rely on unrealistic schedules and staggeringly optimistic budgets.

Germany's energy agency projects that the country needs 2,400 miles of new high-voltage transmission lines from wind farms on the northern coast to urban industrial centers in the south. The estimated cost comes to a little less than $80 billion.

In China—where about 25% of installed wind-power capacity isn't on the grid—the national grid operator, State Grid, has announced ambitious plans to quadruple its on-grid capacity by 2015. Beijing has yet to budget the money for that.

I think these problems will be solved—but slowly.

NEXT: New Solutions

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New Solutions
If you're looking for solutions now to meet electricity demand, I think the alternatives are solar, natural gas, and coal.

General Electric (GE) has certainly reached that conclusion. On April 7, the company announced that it will build the largest solar-panel factory in the United States. The plant will produce thin-film photovoltaic panels using cadmium telluride; those panels will have a combined annual capacity of 400 megawatts of electricity generation.

The plant is based on technology GE acquired when it bought thin-film maker PrimeStar Solar. PrimeStar Solar's thin-film panels were recently certified by the Energy Department's National Renewable Energy Laboratory to have achieved an efficiency of 12.8%. That's a record for thin-film panels.

Although conventional solar panels built on silicon are 16% to 20% efficient at converting sunlight into electricity, they're more expensive to produce than thin-film solar panels.

GE's plans mark an important transition in solar power. "When you look at GE, we're very good at scale," Victor Abate, GE's vice president for renewables, recently told The New York Times.

The company isn't getting into this business because it believes it can make some pie-in-the-sky technology breakthrough. The name of the game in solar now, GE believes, is manufacturing to raise efficiency and lower costs.

General Electric is also going after the natural-gas market. On May 25, it introduced a natural-gas-powered turbine engineered to fit with the variable output from wind and solar power. The company spent $500 million to develop a turbine able to quickly and efficiently vary its output of electricity, so as to keep supply steady in utility systems with big wind and solar components.

The market for natural-gas turbines has turned around in the past year. GE, the biggest producer of natural-gas turbines, had projected that the market would be flat in 2011 and 2012, but it now sees growth in both years that CEO Jeff Immelt has argued is the beginning of a "natural-gas power generation cycle."

Siemens (SI), the world's No. 2 producer of natural-gas turbines, predicts that over the next ten to 15 years, a third of the coal fleet will be retired, and probably the vast majority will go toward gas.

Probably. We've heard this before, and you're entitled to be skeptical. Natural gas was supposed to get a big boost from efforts to control carbon emissions in the fight against global warming. Didn't happen.

This time, though, the global warming story would be a nice boost to a pretty simple economic story. Thanks to a glut of natural gas, a new natural-gas-fired plant generates electricity for about 6 cents per kilowatt-hour, whereas a new coal-fired plant would have a generating cost of about 7.5 cents per kilowatt-hour.

Now, Some Stock Ideas
What stocks do you want to own to take advantage of the new energy landscape?

Some choices are simple. You want to own the makers of natural-gas turbines, rather than the producers of natural gas, where prices barely match costs. That means General Electric (though I wish the energy business were more than just 25% of the company), and Siemens.

The Precision Castparts (PCP) unit that makes components for natural-gas turbines looks to be ending its long-term slowdown, and should be ready to contribute to the company's improving top line from its jet-engine business.

In solar, I think scale and manufacturing efficiency will count. My suggestions here are SunPower (SPWRA) and one of the Chinese manufacturers, such as Yingli Green Energy (YGE) that can take advantage of a big controlled domestic market and access to cheap capital.

US thin-film leader First Solar (FSLR) has too much exposure to the currently unpredictable European market for my taste. But the company has about six times the production capacity of GE's new plant.

I'd also take a look at General Cable (BGC). It is by far the global leader in high-voltage transmission cables. The company also generates two-thirds of its revenue outside the United States.

And I wouldn't forget coal. It remains the fuel of choice for generating electricity in China and India. I'd look for coal producers with good access to those markets, such as Peabody Energy (BTU), BHP Billiton (BHP), and Indonesia's Adaro Energy (ADRO.IJ in Jakarta).

Full disclosure: I don’t own shares of any of the companies mentioned in this column in my personal portfolio. The mutual fund I manage, Jubak Global Equity Fund (JUBAX), may or may not now own positions in any stock mentioned in this column. The fund did own shares of Adaro Energy, Precision Castparts, and Yingli Green Energy as of the end of March. For a full list of the stocks in the fund as of the end of March, see the fund’s portfolio here.

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