Van Eck’s lead energy analyst, Shawn Reynolds, has an MBA from Columbia Business School and a master’s in petroleum geology from the University of Texas. As an investment team member of the Van Eck Global Hard Assets Fund and the Van Eck VIP Global Hard Assets Fund, he travels the world searching for new opportunities in the energy space.
Recently, HardAssetsInvestor.com Editor Lara Crigger caught up with Reynolds to discuss the lasting impact of the Sendai earthquake and Fukushima reactor scare in the energy markets and investment opportunities arising from the disaster.
Crigger: Nuclear power accounts for some 25 percent of Japanese energy capacity. With these plants offline, where will the Japanese make up the difference?
Reynolds: They have a reasonable amount of spare capacity in other traditional thermal-power-generating capacity, which is primarily driven by thermal coal and fuel oil. But they also have a fair amount of natural gas, in LNG, which comes from Australia, Indonesia, Malaysia, Africa, Qatar—a multitude of sources, actually. One of the Japanese’s key strategies is to have a diversity of sources, so you’re not reliant, certainly, on just one country or source.
Now, the tough part about all that is, yes, there’s fuel oil around, but getting spare thermal coal and spare LNG—they’re going to have to go to the market and pay a decent price for that.
Crigger: How is the supply situation in the LNG market? I know that the U.S. domestic natural gas market is oversupplied; we’re just swimming in gas. But that’s a more localized market. How does it compare to LNG?
Reynolds: LNG is a little bit tighter. Right now, the ability to find spot cargoes exists, but you have to compete it away from the likes of Europe. You have to price it away from them.
So depending on which spot market you’re talking about, $10 to $12 in MMBtu is around where spot is sitting at right now, and you’re going to have to really start bidding that up, because that’s what’s going into Europe and even Latin America and the Middle East. You have to bid that away. So if we say the starting point is $10/MMBtu, then we can easily see that going up to $11, $12, $13, maybe even to $15 some time next year.
Crigger: With the tight supply in the oil markets right now, due to the various Middle East conflicts, both WTI and Brent are pushing price highs again. Will that impede attempts to supplement energy capacity in Japan?
Reynolds: Well, the real repercussion out of this is that nuclear is going to be dead for some time. Now, is that a year, is that 10 years? That’s harder to tell. But any incremental power energy source from nuclear is just not going to occur any time soon.
Crigger: Quite a few nuclear plants are currently under construction worldwide, especially in China, and lots of investment dollars are flowing into this space. Are you saying governments will just stop work on these projects for good?
Reynolds: Almost every country in the world has come out and said, “Halt,” or “We’re going to pause and take a look.” That includes China, India, Russia, even Germany. Germany closed down seven power plants that were built prior to 1980. Everyone is saying it, even in places that you’d be surprised to hear it, i.e., China and Russia.
One place that hasn’t is the U.S., which is shocking. We’re not allowed to drill in the Gulf of Mexico, but we’re very comfortable going forward with nuclear power? My own opinion, of course, is we need it all. But I find it staggering that in the face of what will probably rank at least as the third-largest nuclear disaster ever, this country is kind of saying, “Gee, let’s forge ahead on nuclear power.” At a minimum, you’d say, “Oh, let’s just take a step back, take a breather, and figure out what’s going on here.”
But that’s more from the government’s perspective. I think the public has more of a “not in my back yard” attitude that will effectively bring nuclear to a screeching halt in this country.
The only other country that has shrugged their shoulders at this is France.
Crigger: Of course. They get so much of their power from nuclear.
Reynolds: Right. So it’s not quite as surprising. But I think it’s very clear that nuclear is going to take a gigantic step backwards. And what’s going to make up the difference? Longer term, it’s going to be natural gas/LNG. But in the medium term or short to medium term, you really have to be thinking about thermal coal.
Crigger: Why thermal coal particularly?
Reynolds: Because that’s what’s there and available, and that’s what people can ramp up very quickly.
Supply is tight, but the thing with LNG is that it takes years and years to put up new LNG capacity. Now, a fair amount of capacity is coming on stream over the next few years, but it’s not just the liquefaction capacity you need. You also have to have the regas, the import capability. So you have to have the tankers, you have to have the ports, the regasification facility and the pipelines. So if you’re in Japan and say, “We weren’t planning on a new gas-fired power generation facility here, but let’s do it now,” well, it can’t just happen. You’ve got to build a lot of infrastructure to go with it.
Crigger: Infrastructure reconstruction will be a necessary part of any recovery effort. Is this an opportunity for alternative energy players like wind or hydropower to gain a foothold into this market?
Reynolds: You’d really hope that it would be. We need to look at everything that we can. But at the end of the day, it comes down to economics. Things like solar, in particular, just don’t work without a huge amount of government subsidy. Even wind—at this price of natural gas in the United States—just doesn’t work. If you’re talking about taking out, say, 10 percent of the world’s nuclear capacity or even just cutting in half the capacity that was supposed to come on over the next 10 years, there’s zero chance that could be made up by wind and solar. It’s just too large. Solar and wind just can’t deliver that base load amount.
That’s the problem with those things. It’s great to have wind and solar and so on, but really the technologies are not that good. Those solar and wind power technologies we’re using right now have been around for 30 years; we’re just making them a little better. We need next-gen. I’d much rather see all this effort put into R&D.
Crigger: But it might take really high oil prices before we start to see the impulse to innovate and launch that next generation of alternative energies. Without it—if natural gas is really cheap, if oil is really cheap—what’s the incentive?
Reynolds: Right, until you start taxing carbon.
Crigger: Do you think that’s the way that it’s going to go? Wasn’t cap-and-trade the more favored approach in this country?
Reynolds: Cap-and-trade is not the way of doing it. You just need to go right to electricity generation and gasoline, and come out and say, “Hey, for every pound of carbon that you burn or consume, you’re going to pay for it.” But nobody will get elected if they vote for that.
But if we do get up to sustained levels of $130, $150 barrel per oil, well, then maybe that’s when people start realizing that, boy, we do need something fast, and the way we’ll have to pay for it is by taxing carbon.
Crigger: So will the overall effect of the earthquake be something easily absorbed by the energy market? Or will we be feeling the aftereffects of this disaster for quite some time?
Reynolds: I think we’ll see the reverberations for quite some time. In stuff like this, I just revert to my own personal reaction. If somebody came to me and said, “We’re going to put in a brand new nuclear power plant 19 miles away,” I have a feeling I would not be happy with that. And this is my business! My brother has worked at the Nuclear Regulatory Commission for 30 years. I probably have a better insight on nuclear power than most by a long shot. And I really do think that nuclear’s got to be part of the mix. But just not next door to me. I mean, that’s honest and real and I think that’s the way the world is going to react.
Crigger: Of course, if you’re going to build new energy capacity, it has to be close to population centers, in order to get the energy to the population who needs it.
Reynolds: That’s the other place where more money needs to be spent. It’s not just solar or wind on a stand-alone basis, but rather, what’s the most efficient way to transport that stuff? Because they need to be in certain locations: Solar needs to be where it’s sunny, wind where it’s windy—and then you have to get it to market. The current technology in terms of power distribution is absolutely archaic. You lose so much of it. So again, why are we spending money on the electric car, when the electricity that we need to deliver it isn’t going to be there?
Crigger: So is the smart grid then where investors should concentrate their efforts?
Reynolds: Well, I think that’s certainly a huge part of it, and the next generation will be quantum leaps, in terms of solar and wind. But there’s so many universities in the United States that have research efforts on this kind of stuff, that are struggling to maintain some of their funding.
When you think about the billions going into other stuff, take $1 billion and spread it across every one of these projects. If you did that, it would fund them for the next 10 years.
Crigger: Bringing it back to investing, given all the turmoil in the energy space, what ETF plays should investors be considering?
Reynolds: Well, we have the nuclear and uranium ETF, NLR, but we’ll avoid that one. Obviously it dropped like a rock on the Monday after the earthquake. It dropped over 20 percent. But it’s made up half of that since then. So I would say the risk to that is that it flat-lines or goes down, so I’m not all that interested. I just don’t think nuclear is going anywhere. You’d just be trading. That’s how I would think of it. There’s no investment theme there.
Crigger: What’s a better long-term strategy?
Reynolds: I think back to your traditional hydrocarbons, thermal coal. Thermal coal looks very interesting right now. There’s resource there, but it’s going to take a lot of work to get it to the market. You have a very large shortage of rail capacity and work capacity, and you’ve had all the rains in Australia still limiting output there. Rains in Indonesia, too; and you have rains in Colombia, and you’ve got real important capacity limitations in the central Appalachian region of the eastern United States. There’s a maturity of that supply base, with higher sulfur, lower grades, lower content, lower Btu content coal being mined. You need more coal for each megawatt you’re trying to produce.
So, I think there’s been a lot of discussion about coal over the next couple of years, particularly met [metallurgical] coal. It was in place before Fukushima, but the quake seems to be the catalyst of people focusing back on thermal coal and saying, “Hmm, we might be short thermal coal.”
Crigger: Thank you.
Reynolds: My pleasure.
Some Related ETFs: Market Vectors Uranium & Nuclear Energy (NYSE:NLR), PowerShares Global Nuclear Energy (NYSE:PKN), iShares S&P Global Nuclear Energy (NYSE:NUCL), Global X Uranium ETF (NYSE:URA), iPath DJ-UBS Natural Gas Subindex Total Return ETN (NYSE:GAZ), United States Natural Gas Fund (NYSE:UNG), United States Oil ETF (NYSE:USO).
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