Improving Efficiency

HOKKAIDO, Japan–Some cynics will argue that the annual G8 Summit is nothing more than a chance for world leaders to eat and drink well in a scenic resort area.

In this case, they’re half correct: I would agree that the Lake Toya region of Hokkaido, Japan, is among the most beautiful places I’ve ever had the occasion to visit, and the local seafood, produce and cuisine is unparalleled. Furthermore, the Japanese are among the most hospitable and gracious people I’ve ever met. I can’t imagine anyone in attendance not coming away from Hokkaido with the best of impressions.

But the critics err in characterizing the annual summit as meaningless. Although the statements and resolutions may be vague and carefully worded, the G8 does highlight key trends, issues and governmental priorities that can prove extraordinarily profitable for investors.

Judging from the press coverage here in Japan and the media representatives I spoke to at the summit, the main talking point to emerge is that the US and other G8 countries agreed to strong language in the official statement concerning greenhouse-gas reductions. The official statement calls for a goal of “achieving at least 50 percent reduction of global [greenhouse gas] emissions by 2050, recognizing that this global challenge can only be met by a global response.”  

The statement also reaffirmed the validity of the assessment of the Intergovernmental Panel on Climate Change (IPCC). This marks a significant strengthening from the language concerning carbon reductions in last year’s summit in Germany.

But the G8 is about far more than eight big, industrialized countries; in fact, a total of 22 participated, making the Hokkaido Toyako Summit one of the most inclusive in the history of the summit. Many of the developing countries didn’t accept or sign on for the specific greenhouse-gas reduction targets; countries such as China and India justifiably feel that such a target would have a severe impact on their economic growth potential.

China, India, Brazil and other developing nations were part of the so-called Meeting of Major Economies on Energy Security and Climate Change. The 11-point declaration to emerge from these meetings noted the importance of climate change issues and vowed to combat global warming. But that statement stopped short of offering any concrete reduction guidelines.

From an investor’s perspective, the semantics of a carefully worded, 10-page statement from the G8 aren’t particularly important. But the Hokkaido Summit does have some absolutely crucial implications for investors. First, carbon-dioxide (CO2) and greenhouse-gas regulations will be implemented across the developed world G8 nations. The only remaining question is what form those regulations will take.

As I’ve often said in The Energy Letter and The Energy Strategist, as investors we don’t really need to make a judgment on the importance, scope or even the existence of climate change. But failure to respond to the investment implications of CO2 mitigation policies would be unprofitable and downright reckless. The upside of all this is that global warming policy is driving some durable, long-term trends that will prove immensely profitable for well-placed investors.

Consider a report published by the International Energy Agency (IEA) for this year’s summit. The IEA outlined a plan for actually meeting the 50 percent reduction target agreed to at the G8. Its assessment: Maintaining CO2 emissions at close to their current level is possible using current technologies and would cost roughly $50 per metric ton of CO2 saved.

In contrast, achieving the targeted 50 percent reduction would require the use of technologies that haven’t yet been developed. The cost would be as high as $500 per ton of CO2 saved. That works out to a $1.1 trillion annual investment requirement.

Although some of this added investment would likely find its way into government research programs, you can bet that most will end up in the hands of companies developing clean energy technologies. Whenever there’s that much cash floating around, investors should be licking their chops and looking for ways to take advantage.

One group of firms that should get a lift is companies focused on energy-efficiency technologies. The G8 is about far more than the official statements and resolutions from the leaders on various issues. Also released during the summit were stacks of papers and reports from various government and international organizations offering data, statistics and recommendations to G8 nations regarding how to meet carbon reduction targets.

In addition, the host nation typically uses the summit venue itself to showcase some of the main topics discussed in summit meetings. In this case, the International Media Center (IMC) was really a large-scale demonstration of clean energy technologies developed by Japanese companies. I’ve been highlighting some of these technologies and my impressions of them in the blog At These Levels.

One area of significant importance that I haven’t yet highlighted on the blog is energy-efficiency technology. In other words, there are two aspects of emissions reductions: generating energy using technologies that produce fewer emissions and using the energy we do produce more effectively.

In the IEA’s report on attaining the targeted emissions reductions, the agency highlighted the latter point at great length. In fact, energy efficiency was the most important element of the plan they presented to the G8. Check out the chart for a closer look.

Source: International Energy Agency Report to the G8 Summit, Hokkaido, Japan

Current global carbon emissions are roughly 28 gigatonnes (Gt), and under the IEA’s current base-case scenario with no changes, emissions would grow to 62 Gt by 2050. A 50 percent reduction means that, instead of emissions increasing to 62 Gt, they’d actually be cut to 14 Gt, half the current level. That’s a cut of 48 Gt from the IEA’s base-case scenario.

The chart above shows where the IEA expects that 48 Gt to come from. As you can see, energy efficiency is one of the leading sources of reduction; 24 percent of the total reduction is expected to come from better fuel efficiency, 12 percent from better electricity use efficiency and a further 7 percent from power generation and transmission efficiency.

Although I don’t necessarily agree entirely with the IEA’s plan, its focus on efficiency does make considerable sense. And the driver of efficiency isn’t CO2; in an era of higher energy prices, adopting technology to save fuel costs makes economic sense.

As I pointed out in the May 16, 2008, issue of TEL, Coal Investors Take Their Lumps, many environmental groups that oppose the construction of new coal-fired plants are actually forcing large increases in CO2 emissions.

The IEA makes that same basic case in its report, arguing that, if all plants in the electric utility industry were upgraded to cutting-edge, best-practice plants, total emissions of carbon would fall between 23 and 32 percent. The main contributor to that drop: More-efficient, supercritical coal plants burn far less coal to produce the same amount of energy as older-style plants.

Even more important, older-style coal plants would be impractical to retrofit for carbon capture and sequestration (CCS) technologies because of the loss of efficiency. Only more efficient, modern facilities are practical for carbon capture; a failure to upgrade to newer plants also limits the potential for CCS. Ultimately, companies with the ability to construct such state-of-the-art coal plants will have a role to play.

And energy efficiency reaches far beyond coal-fired plants. The IEA report noted that, in the steel industry, producers could significantly decrease carbon emissions simply by adopting energy best practice and updating their blast furnaces. In the case of China, for example, adoption of industry best practice would result in 0.48 metric tons less CO2 emissions per ton of steel produced.

Also consider the use of materials. The new Boeing 787 Dreamliner aircraft is significantly lighter than other airplanes of the same size because of the use of advanced carbon-fiber composite materials; the new plane can result in a more-than-one-third reduction in fuel costs. At the summit, Mitsubishi was displaying a model of its new regional jet airplane capable of carrying 70 to 90 passengers. Simply by using carbon fiber, the jet uses 20 percent less fuel than current operating models.

And, of course, there are also low-emissions appliances for homes. Japanese manufacturers had several new types of appliances on display, including an advanced, low-energy heat pump that provides water heating, air conditioning and heat from a single compact unit.

I’m under no illusion that conservation alone will solve the world’s energy needs. However, it’s clear that the drive to reduce fuel costs and cut emissions to meet new CO2 reduction targets will come to benefit firms that focus on energy efficiency technologies.

Speaking Engagements

Be sure to wear a flower in your hair when you venture west to San Francisco. My colleagues Neil George, Roger Conrad and I will be heading to “The City” Aug. 7-10, 2008, for the San Francisco Money Show.

We’ll discuss infrastructure, partnerships, utilities, resources and energy, and tell you what to buy and what to sell in 2008.

Click here or call 800-970-4355 and refer to priority code 011361 to attend as our guest.

Also, be sure to check out our blog, At These Levels, for more noteworthy stories.

Special Invitation

We have a special invitation for our readers. KCI Communications, Inc., publisher of The Energy Letter, is organizing an exciting 11-day investment cruise Dec. 1-12 through the Caribbean and Panama Canal. Participants will have the opportunity to meet and chat with my colleagues Roger Conrad, Gregg Early and Neil George and myself.

This will be a unique opportunity to step away from your daily routines, relax in one of the most beautiful parts of the world and share analysts’ knowledge and passion for the markets. During the sail, you’ll not only explore the cerulean splendor of the Caribbean, but you’ll also delve deep into current markets in search of the most profitable opportunities for your portfolios. You’ll also have the rare chance to sail through one of the world’s engineering marvels, the Panama Canal.

It’s always a special treat to meet and talk with subscribers in person, and we couldn’t have picked a better setting than aboard the six-star Crystal Serenity. This is sure to be an especially memorable experience. We hope you’ll join us.

For more information, please click here or call 877-238-1270.