The impact of Covid-19 on the global energy market means we may have already seen peak demand for fossil fuels, according to Kingsmill Bond, strategist at thinktank Carbon Tracker.
While the fossil fuel industry saw growth of just 1.7 per cent last year, it still dominates the global energy system with an 80 per cent market share. Forecasts by the major oil & gas companies are predicting “business as usual” for the next 20 years.
However, Bond described this view as complacent and said it is a sign these businesses would rather put their head in the sand than face up to the challenge of disruption.
“This system is being challenged by fast-growth renewables,” he explained. “And it's a typical story that has been seen many times in different industries: a challenger moving very quickly is able to disrupt an incumbent.
“What is special about this transition is that solar, wind and batteries are being propelled by extraordinary technology learning curves whereby their costs are falling by around 20 per cent for every doubling in capacity. And to be clear, solar and wind have been doubling in capacity every two or three years for the last few years.
“Very recently, these new technologies became cheaper than fossil fuels. It’s an extraordinary story and it just keeps getting better with more and more instances of these new technologies outcompeting the existing ones.”
Bond said that we have already seen peak demand in certain fossil-fuel sub-sectors. For example, the world reached peak coal demand in 2013 and Europe saw peak fossil-fuel demand as early as 2005. This led Carbon Tracker to release a note in 2018 that predicted if renewables carried on their current trajectory and growth in energy demand remained at around 1 per cent, the world would reach peak fossil fuel demand by 2023.
However, this prediction was made before the coronavirus hit the energy sector. The impact on fossil fuels has been stark, with demand for coal down 8 per cent and oil down 9 per cent. Yet rather than retract, the solar and wind sectors are expected to grow at 16 and 12 per cent respectively this year and as a result of this divergence, Bond believes peak fossil fuel demand has already been and gone.
“What's really happening here is a cyclical shock that is bringing forward the date of the cyclical peak,” he explained. “That's the story. It is a story we can see happen in many other sectors.
“The best example is the European electricity sector in 2007 where the global shock brought forward peak demand for fossil-fuel electricity generation in Europe, completely unexpectedly for the incumbents.
“If there is a bounce-back of 4 per cent in 2021, you're still down 4 per cent. That industry was only growing at 1.7 per cent so it is going to take you to the mid-2020s to get back to 2019 levels.
“And by that stage, as we've seen in many other sectors in the past, these new energy technologies will be big enough to supply all the growth. As a result of that, we're very confident in saying we've already seen peak demand for fossil fuels for electricity.”
Bond pointed out that because the fossil fuel industry grew consistently for more than a century until 2013, it has never had to cope with a sustained period of falling demand. As a result, most of the incumbents are still planning for growth.
If Carbon Tracker’s prediction is proved correct and the industry goes into decline instead, Bond believes this will cause a spike in stranded assets. Since 15 June, BP and Shell have written down almost $40bn of assets as economically unviable – but Bond believes this is just “the tip of the iceberg”.
“The point here is you've got a huge amount of stuff below the ground, a huge amount of physical infrastructure,” he continued.
“You’ve got assets, you’ve got debt: about a quarter of the world's equity market is linked to this system. And we would suggest that all of these vulnerable financial markets will react early: financial markets don't wait until demand has gone.”
So what should investors do to mitigate these risks? Bond recommended they focus on three key points.
“The first is that this change is real, not something that carbon foot-printing and greenwashing and all the rest of it can get you through,” he explained.
“You're going to have a real significant strategic shift and analysts have got to think and analyse quite differently.
“Second, what we've seen happen in the last two weeks is just the beginning of a whole series of write-downs in what we call ‘the stranded asset decade’.
“The final point is you need to act now in order to avoid loss.”