The IEA published its opinion (18 May) on how the world can transition to an energy supply system with overall zero emissions of carbon dioxide by 2050 in order to meet the 2016 Paris Climate Agreement target of limiting the increase in global temperature to 1.5°C. Central to its roadmap is the demise of Fossil Fuel energy supply and a wholesale shift to Renewables.
Among the many interim steps laid out in its roadmap, are zero capex in new Fossil Fuel energy supply projects forthwith and a transition from a global energy supply mix currently 30%, 26%, 23%, and 12% dependent on Oil, Coal, Gas, and Renewables, respectively, to a mix of 8%, 3%, 11%, and 67% by 2050.
Oil versus Copper dilemma for investors
Obviously, the global adoption of such a roadmap for the energy transition would involve huge economic and political costs for countries dependent on revenues from Oil and Gas production and exports – eg Russia and Saudi in large emerging markets and the rest of the GCC, Colombia, Kazakhstan, and Nigeria in small ones – and huge opportunities, at least economic ones, for those countries dependent on Copper – eg Chile, Peru, Zambia.
The difference for Oil and Copper in this very long-term scenario is not reflected in the roaring rally of both over the last year – both are up about 90%. This has been driven more by stuttering recovery in demand and the dearth of capex in recent years on the supply side.
There are three ironies for investors in this context.
While investors have to balance very high, perhaps unsustainable, valuations for Technology exposure, they also have to deal with a dilemma between ever higher Oil prices in the short term, on the one hand, with terminal decline, on the other.
The IEA 2050 document itself, to the degree it influences views on long-term Oil demand, may provide another reason for restraint on capex, exacerbating the short-term rally in Oil price.
Domestic politics in the Copper countries with the most liquid equity markets, Chile and Peru, are doing their best to spoil the story.
Overall, we prefer Copper markets like Chile and Peru over Oil markets like Saudi and Russia – while the near term risk of unhelpful domestic politics is higher, the valuations relative to history arguably already reflect this.
Policy advice meets...
Ultimately, the IEA report is merely a policy advice document. The International Energy Agency was founded in 1974 under the OECD to provide research and policy advice on security of energy supply in 1974, following the Oil Crisis in 1973.
Much of its work has focused on the Oil market and its member countries, which now includes a number of emerging market countries in addition to the OECD ones, are required to maintain oil inventories equal to about a quarter of the prior year's net imports.
However, the IEA looks across the energy spectrum, not Oil alone. For some time it has been turning its attention to the transition towards non-hydrocarbon sources of energy.
...The real world
Covid-19 has demonstrated that the coordination required for such a massive global transition is lacking. And ever greater friction between the US and China will also play out in the field of climate change and energy supply.
China total CO2 emissions are double those of the US (indeed, they are 20% higher than the US and the EU combined) but half that of the US on a per capita basis. In launching the 2050 document, IEA Executive Director Fatih Birol commented that "Plans need to reflect countries’ differing stages of economic development". It is very clear that the US, the EU, and China are far from agreeing how to do that.
The IEA document will no doubt provide the younger constituency another tool to pressure political parties in all democracies in relatively advanced economies, most notably the "Progressive Left" in US President Biden's Democrat party, as well give the institutional investment management industry another nudge to adopt ESG criteria (which, in turn, pushes changes in strategy of companies).
However, it is very unlikely to shape attitudes in less advanced countries (which does not include relatively high income "emerging markets" like South Korea and Taiwan) where either near-term income growth matters more than global climate change or the entire political system is built on rents from the hydrocarbon sector.
Chile votes left, May 2021
Commodity price beneficiaries in emerging markets, October 2020
BP is leaving Emerging Market oil but could return in new ways, (Domjan) October 2020
GCC: Sovereign wealth warning from the IMF (again), February 2020