While economic growth and responses to global warming have historically been at odds, the pressure to reduce carbon emissions while sustaining current and future growth demands is bringing these investment themes closer together.
From a commodity perspective, the threat of restrictions in the new carbon-concerned world is directing investor focus towards the quantity consumed rather than the price.
With quantity restricted, the options are to make more, find a substitute or do more with less. This is creating clear investment winners. Here are three topical examples.
Oil: doing more with less
With oil reaching $135 a barrel and predictions of it lifting to $150, a lot of eyes are focused on the price.
However, instead of price, more attention should be directed towards the quantity of fuel available.
Looking at the car industry, the number of a particular model of car sold and operated by consumers globally is driven directly by its fuel consumption.
This is clearly demonstrated in the US, where demand for fuel-intensive sports utility vehicles is rapidly collapsing while remaining robust for smaller, lighter and more efficient cars.
This change in demand is driving several engineering initiatives around the entire system of road passenger transport, including the US Automotive X-prize, a competition to develop production-ready vehicles that can travel more than 100 miles per gallon (2.35 l/100 km) and meet all on-road requirements such as crash safety tests.
These initiatives have seen significant changes in car production, including reductions in weight by making cars smaller and or lighter, saving fuel by improving engine design or substituting petrol for diesel, and radically altering the power train using electrical propulsion and batteries.
The most exciting development, from a power train and consumer targeting perspective, is the Tesla.
This is an all-electric, battery-powered sports car that exceeds the acceleration performance of a Lamborghini, but is roughly 10 times more fuel-efficient.
Such radical designs are occurring alongside more conventional appearing vehicles such as the now widely available hybrid petrol electric car. This makes for very interesting opportunities across the whole automotive supply chain.
Finding a substitute: renewable energy and storage
The need to substitute coal-fired energy with low carbon sources is now clear, but the long-term economic feasibility of renewable sources remains a little murky.
Wind, solar, hydropower, geothermal and ocean power all have the advantage of being ‘free fuel’ technologies unlike fuel-based systems like nuclear, gas and coal, which have an operating cost component reflected in the fuel price.
Therefore, renewable sources are all about capital efficiency, while fuel-based systems also have an operating component.
However, the disadvantage for wind and solar power is they are unable to produce energy at 100 per cent capacity.
For wind power, the central problem is supply is dependent on the wind blowing and may not reflect shifting levels of demand. For hydro power, the problem is limited rainfall and a lack of suitable new sites. So each source appears limited on its own.
To improve their profitability, there is a need to add an energy storage capability that will enable these renewable plants to shift energy supply to a time that better matches the demand.
This is not true of fuel-based systems since fuel is ‘free storage’. One simply shuts down the expensive operating cost plant when the selling price is low.
Wind turbines cannot store energy but hydro can. As a result, engineers are developing special-purpose wind turbines that sit next to existing dams and can channel and store energy.
Using the cheaper excess electricity of the wind turbines to pump water into the dam achieves two things: it improves the economics of the wind resource as it allows energy to be stored and subsequently sold at a higher price, which makes the capital investment more sound, and it also expands the capacity of the hydro system to generate electricity, as it uses the limited rainfall more than once.
This approach is being exploited already for individual wind farms with small-scale hydro storage plants. The wind-hydro integration task force run by the International Energy Agency is researching expansion to the grid level.
The investment opportunities of integrated wind and hydro power solutions are becoming clear and actionable in the marketplace, leading to significant value creation.
These physical drivers of design optimisation are influencing everything from electrical grids to power management and metering to better manage demand against supply.
Finding more: food and protein demand
The urbanisation and industrialisation of the developing world is leading to new opportunities in food production, processing and distribution. Urban dwellers typically earn higher incomes and eat higher value and more protein rich diets.
However, animal protein production uses grains, and the amount depends on the animal raised. When people switch from direct consumption of grain to eating cattle, hogs, sheep or poultry, there is an associated increase in the consumption of grain by the additional animal population. This is evident in the rapid rise in grain prices.
The important physical ratio that needs to be examined is how much grain is used per kilogram of animal protein.
Among major commercial species, poultry is the most efficient, with two kilograms of food making one kilogram of chicken, followed by three to five kilograms for hogs and then seven for sheep and seven to eight for cattle.
Among lesser species, rabbits are similar to poultry, as are fish with one to two kilograms of grain needed, which is more efficient than any land species, potentially making them a very attractive commodity investment.
For global protein supplies, the choice of animal protein matters as does the source of animal feed.
Among the major available grains, the soy bean is emerging as the most actively traded international commodity. Soy beans are interesting because they have multiple products associated with them: oil, dairy substitutes and animal feed.
The oils can be used for cooking or fuel, and this process does not destroy the remaining protein, which can be made into soy cakes for animal feed. Such feed can be broadly useful but is particularly suited to poultry and aquaculture, which are the two fastest growing areas of animal agriculture.
The opportunities to adapt grains to aquaculture are particularly significant since this is the fastest growing category of animal protein worldwide.
This is important since fish require a high protein diet and wild stocks of fish are rapidly declining. Protein rich grains are therefore very significant in the animal feed industry.
The race is on to adapt the grains system to serve human consumption, bio-fuels and animal feed production requirements.
This involves a combination of new lands entering production in Latin America; new grain varieties offering a higher yield; development of non-human food grains such as lupins; and the substitution of oilseed in bio-diesel production with new feedstock such as algae harvested in ponds.
Provision of affordable food in the type and quantity needed against a robust future demand environment is a compelling global investment opportunity.
Kingsley Jones is the portfolio manager, international equities, at Macquarie Funds Management.
