Energy: Keeping the World Running?

For millennia, humans relied on wood and other readily available biomass to meet their fuel needs. However, beginning in the 1800s, fossil fuels started to become the primary source of energy. Coal was abundant in much of the world, and the adoption of coal primarily drove the industrial revolution to run the machines such as steam engines, power looms, and steamships. With the discovery of petroleum, energy use multiplied exponentially. The advent of electricity spurred the modern era. A large proportion of global electricity production still relies on fossil fuels such as coal to run the generation plants.

Industry structure

Coal continues to remain an essential source of energy. China and India are the largest producers of coal. In addition to its use as fuel, coal is a vital ingredient for the cooking process to produce steel from iron ore. Coal mining worldwide involves an element of government control as it is still an essential commodity in most of the developing world.

The petroleum industry has also been dominated by cartelization from its early years. The American firm Standard Oil, started by the US business magnate John D Rockefeller, was one of the earliest monopolies. The antitrust regulators eventually broke it up. Later, the major petroleum-producing nations in the Middle East and Africa and Venezuela, formed the Organization of the Petroleum Exporting Countries (OPEC) to control supply and reduce competition between the members. OPEC operates almost like a cartel. Non-OPEC countries that are significant producers of petroleum include Russia, China, and the US. Despite the presence of these organizations, energy markets have seen crises from time to time, including the famous crisis of the 1970s and the oil crash in 2014.

Shale revolution and impact on the industry

Shale oil has always existed but extracting that was not possible until very recently. Shale is a kind of rock with low permeability, and oil within it is hard to extract. The development of horizontal drilling and hydraulic fracturing – more commonly known as fracking, unleashed the shale oil revolution and the rise of the US as a significant producer of petroleum. US production also ended up dampening the strength of OPEC, at least concerning their equation with the US.

Source: World Bank

The force of renewables

Renewable energy sources have existed for a long time. Wind and water-operated mills have been found from centuries ago. However, they are the fastest-growing area of the energy space. With all their advantages, fossil fuels are also the most significant cause of pollution in the world. With rising concerns about global warming and the effect of pollution on air quality, many developed nations have enacted rulings to curb the use of coal and oil and are pushing for renewable sources such as solar, wind, and other eco-friendly sources. Countries have set goals to become net carbon zero as early as 2050.

While the push for clean energy is a positive for the world, it has come with short-term fluctuations in energy prices. It has also led to underinvestment in exploration projects and can potentially cause supply constraints. An example can be cited from the recent energy crisis worldwide with production not being able to meet a demand spike and the accompanied by soaring energy costs. Both developed nations such as the UK and emerging nations like India are rushing to shore up coal stocks to meet the demand. The covid pandemic had already disrupted coal shipments, and the curbs on energy producers worsened the situation. Experts believe that a more phased manner of moving away from fossil fuels would help smoothen the transition.

Investment options:

The long-term outlook for traditional energy sources is not that bright, given the push to alternate sources. However, fossil fuels are not expected to stop overnight, mainly because coal and oil are key inputs to the chemicals-industrial sectors. As such, for the near and medium-term, energy-related securities provide an attractive investment or those with a contrarian view. The sector has always attracted a bevy of investors and traders who take advantage of the frequent spikes in volatility. Some of the largest energy players in the world include:

Exxon Mobil Corp is a descendent of the erstwhile Standard Oil of John D Rockefeller. It is one of the largest companies in the world by revenue. It is an integrated oil player with large refineries and a wide retail network.

Royal Dutch Shell is an Anglo-Dutch oil and gas company. It is also a vertically integrated company with exploration, production, refinery, and retail operations across the world. Shell generated around $180 billion in revenues in 2020.

British Petroleum is a multinational oil and gas company headquartered in the UK. This too is a vertically integrated giant with operations across the world. BP had revenues of $183 billion in 2020.

Source: Morningstar

Top coal miners include:

Consol Energy is an energy company with primarily US operations. It is the largest producer of bituminous coal in the US.

Arch Resources is a coal mining and processing company. It supplies both to the power generation and steel industries.

Peabody Energy is the largest private coal company in the world and is a key provider of coal to electricity producers and steel manufacturers.

Source: Morningstar

In addition to the vertically integrated oil majors and coal companies, there are a few key providers of infrastructure to the energy industry. These include Schlumberger Ltd, Baker Hughes, and Halliburton Co.

There is also a plethora of ETFs available that give one exposure to the energy sector. Some of the most popular include, Energy Select SPDR ETF (XLE), ​​​Vanguard Energy ETF (VDE), SPDR S&P Oil & Gas Exploration & Production ETF (XOP), and iShares U.S. Energy ETF (IYE). All these offer exposure to the broad energy market. Special ETFs such as the iShares U.S. Oil Equipment & Services ETF(IEZ) and Alerian Energy Infrastructure ETF (ENFR) give exposure to the infrastructure providers to the energy industry.

Source: Morningstar