Strategy & economics
Can we avoid an energy crunch?
The energy transition has to happen. Climate change can no longer be ignored and the political will is finally there to confront the substantial challenges. The first stage of this process is the switch from energy produced by coal and gas to energy produced by renewables, such as wind, solar and geothermal.
As part of this “decarbonisation” process, the share of electricity generated by renewables will need to expand from the current 20% to almost 85% by 2050.
Why will electricity become more important in the future?
At the same time, the “electrification” of energy use will be a key part of the energy transition.
At present, electricity only accounts for 20% of the overall energy mix. The remaining 80% is accounted for by the fuels we put in our cars and burn in industrial processes.
To maximise the potential of clean renewable energy, we need to increase the percentage of electricity in our energy mix to 45% by 2050. Governments around the world are setting deadlines for phasing out internal combustion engines and consumers are increasingly switching to electric vehicles (EVs), a trend which is only set to accelerate.
Will there be enough electricity?
EVs use as much electricity over a year as the average household. So, with the use of EVs expected to expand rapidly in the next few years, there will be a substantial amount of additional demand for electricity. By 2050, an extra 2,000 terawatt-hours (TWh) of electricity will need to have been added, just to supply the additional energy to power EVs. This is equivalent to three times the current annual power consumption of Germany.
This is a huge amount of extra electricity that’s going to be added to the grid. This has the potential to create problems for the grid in terms of blackouts (total loss of electricity) and brownouts (a reduction or restriction in the available electricity in a particular area).
An expanding global population and higher temperatures (as a result of climate change) is also leading to increased demand for electricity. This was seen in 2018 when renewable energy grew at a record rate but fossil fuel production also increased to keep up with the higher demand.
If renewables are unable to keep up with the increased demand for clean energy, fossil fuel production may have to increase. This would result in even higher emissions levels.
So, what needs to happen?
To ensure that that higher electricity demand doesn’t lead to higher fossil fuel production, the entire energy system needs to be transformed. And this creates powerful investment opportunities across the entire value chain.
A huge amount of new infrastructure will be needed, to upgrade and change the existing distribution grid. EV charging points will need to be installed in cities to allow people to charge their vehicles. Power cables and transformers will also need to be upgraded or replaced as the amount of power coming into the grid expands. This is a particular problem in a number of countries, as their electricity infrastructure is already old and struggling to cope.
In the US, the electricity grid, which has an average age of 25 to 30 years, is already struggling to cope and the energy transition has only just begun. As more electricity is added to the grid there will be a bigger load on the system, and a huge amount of investment will be needed to upgrade it.
To meet the targets outlined in the Paris Agreement, an estimated $120 trillion will need to be invested by 2050 in areas such as energy storage, transport electrification and clean power generation. This creates the opportunity for rapid earnings growth for companies investing in the energy transition.
Where will the investment opportunities be found?
The most obvious winners will be utilities, many of which are already specialists in renewables, as well as the growing number of independent power producers, which manage and operate renewable assets.
However, there are some less obvious winners too. A huge amount of new transmission infrastructure will need to be installed to connect renewable assets to the electricity grid. Renewables are best suited to sunny and windy locations, but these locations are often situated far away from large cities, so there is a need to connect these assets to the grid. This creates opportunities for electrical equipment companies which are building the cables and the electrical components that are required to transport that electricity to major population and industrial hubs.
The other main winners are energy storage companies. The electrical load from renewables is variable as the wind doesn’t always blow and the sun doesn’t always shine. Storage can solve this problem by deploying renewable energy when it’s most needed and storing it when there is an excess of electricity on the grid.
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This article is issued by Cazenove Capital which is part of the Schroders Group and a trading name of Schroder & Co. Limited, 1 London Wall Place, London EC2Y 5AU. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority.
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