The Best Peak Oil Investments, Part VIII: Alternative Fuel Report Card

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Tom Konrad CFA

There are two types of solution to the liquid fuels scarcity caused by stagnating (and eventually falling) oil supplies combined with growing demand in emerging economies.  The most obvious is to find a substitute to replace oil.  Each potential substitute has barriers to its use which stand in the way of it from becoming a complete substitute for petroleum based fuel.  Understanding those barriers also leads us to the investment opportunities that arise from these substitutes. 

In the last two articles of this series, I looked at barriers to adoption for alternative fuels, and the limits and constraints that will likely prevent most of them from reaching sufficient scale to replace our current oil use. 

The first barrier was the last of existing infrastructure for many fuels: the lack of a fueling infrastructure that would allow drivers to fuel their vehicles when and where they need to at competitive prices, while the lack of a distribution infrastructure can keep the fuel from getting to the regions of the country where it is needed.  The second barrier is energy density: in order to deliver the range that people expect from their vehicles, an alternative fuel and the tank or battery that holds it works best if it is both light and compact.

The constraints were the total available supply (current and long term), alternative uses which might divert that supply to more economic purposes than fuel, and the damage producing and using the fuel does to the climate and environment.

To be a success, an alternative fuel must be able to overcome both barriers, and not have such severe constraints that there is little fuel available.  The barriers put limits on the short term profitability of the technology.  The constraints limit the short-term or long-term size of the market for the fuel, and the economics of the fuel.

Investment Opportunities

The table below summarizes the discussion in parts VI and VII.  I’ve rated the barriers and constraints for each fuel from A to F, with F being the least favorable to the adoption of the alternative fuel, and A being the most favorable.

Barriers Biofuels Electricity H2 NGV GTL CTL
Fueling Infrastructure A C F F A A
Distribution Infrastructure D A D A A A
Density A F C C A A
Overall Barriers B C D C A A
Constraints Biofuels Electricity H2 NGV GTL CTL
Current Supply C B F B B B
Long Term Supply B A A F F F
Alternative Uses C C D C C C
Climate/Environment C A A D D F
Overall Constraints C+ B+ C+ C- C- D+

H2= hydrogen; NGV = Natural Gas Vehicles; GTL=Gas to Liquids; CTL= Coal to Liquids.

Hydrogen (Barriers D / Constraints C+)
If you agree with my assessments in the previous articles and as laid out in the above chart, it seems clear that hydrogen is a non-starter as an alternative fuel: the barriers are much worse for hydrogen than any of the other alternatives, and while hydrogen does have the long term advantages of potentially unlimited supply with minimal environmental impact, electricity has these same advantages, but has fewer barriers to overcome.

Natural Gas Vehicles (Barriers C / Constraints C-)
Natural Gas Vehicles are questionable as a peak oil mitigation strategy as well.  Natural gas is usually touted as a transitional fuel as we move away from oil and towards renewables.  But with the barriers to vehicle electrification no worse than the barriers to NGVs, a direct transition to electric vehicles seems a better choice. 

Biofuels (B/C+) and Gas to Liquids (A/C-)
  Biofuels and Gas to Liquids will likely have roles to play, but these roles will be limited by supply constraints.  Companies that can solve some of the problems for these two alternatives (such as land and water use for biofuels) may be profitable investments.  Algae is one possible way to overcome the supply constraints and environmental degradation caused by biofuels, but as I discussed in Part V, the publicly traded algae companies and technology is still too early stage to make attractive investments.  Biofuel feedstocks grown in salt water also have good long term potential.

The big questions lie with Vehicle Electrification and Coal to Liquids (CTL). 

Coal to Liquids (A/D+)
CTL would have a lot of potential as a short-term peak oil mitigation strategy if either 1) we choose to ignore the associated climate impact, or 2) we find and develop an economical way to sequester the associated carbon emissions.  I personally don’t think that carbon sequestration is likely to be economical except in special (and small scale) situations such as enhanced oil recovery, but if a company manages to crack this nut, it is likely to be an excellent investment opportunity.

Likewise, so long as the true costs of greenhouse gas emissions are not paid by the polluters, high oil prices may make coal to liquids plants quite profitable in the short term given the ease with which synthetic diesel can be used in the current distribution and retail infrastructure.  However, such plants would be subject to potentially bankrupting regulatory risks because of the real chance that regulators may decide to price these externalities at a later date.  These risks mean that many lenders will be unlikely to finance Coal to Liquids plants.  We have seen a similar trend with many banks deciding not to finance new coal-fired electricity generation because of regulatory risk.  This trend is not all one-way, however, as some lenders (like the World Bank) are less subject to market forces, and may continue to fund environmentally harmful projects if they feel such projects are in line with other goals, such as development.

Vehicle Electrification (C/B+)

Where the prospects for Coal to Liquids are all short-term, the prospects for vehicle electrification are all long-term.  Energy density and the cost of batteries present serious near-term barriers to vehicle electrification.  In contrast, the long term prospects for vehicle electrification are much brighter than for any other alternative fuel.  The potential to deliver clean renewable electricity from wind and solar is sufficient to power all the worlds current electricity and transportation needs hundreds of times over.  Electric vehicles have the added advantage that they can smooth the natural variability of these most abundant renewable electricity sources by charging when the wind blows and the sun shines.

But the prospects for vehicle electrification come with a huge caveat: Plug-in Hybrid Electric Vehicles (PHEVs) and pure Electric Vehicles (EVs) are far from cost-effective ways to displace oil because of the huge cost, weight, and volume requirements of batteries.  Batteries are getting better, and many governments are pouring in the funding dollars, but for now only the mild vehicle electrification available with conventional hybrids uses batteries cost-effectively enough to make economic sense, even with a doubling or tripling of gas prices.  PHEVs and EVs can make sense as niche vehicles where performance (sports cars), silence (golf carts), or environmental sensitivity is at a premium.  They may also make sense for some fleet vehicles that follow predictable routes and can benefit from multiple battery swaps or charging
sessions per day (mass transit, postal vehicles) but the cost-benefit analysis of such applications will be very sensitive to the application.  Smaller vehicles such as electric bikes and scooters also have great potential because their lower power and range requirements are easier to meet with current commercial battery technology.

Even these more limited applications for vehicle electrification are large compared to the current battery market.  As I wrote in part II, battery companies, especially those making progress with chemistries not currently the subject of intense investor interest, are compelling investment prospects.

Conclusion: The Best Peak Oil Investments

There is no perfect substitute for fossil fuels.  In the end, we are going to have to find ways to address the reality of peak oil that go farther than simply replacing one fuel with another: we are going to have to reduce our usage.  Fortunately, a number of strategies for reducing fuel use exist.  Not only is there considerable potential to increase vehicle efficiency, but there are also many ways to encourage conservation which can have net economic benefits for society.  For investors, these strategies also hold promise, although it is not always obvious how companies can turn a profit from helping consumers consume less.  

The “Best Peak Oil Investments” are not be the substitutes I have been talking about so far.  The best peak oil investments are the technologies that allow us to use less oil and still get our transportation needs met.  Future articles in this series on peak oil investment strategies will attempt to tease out the investment opportunities that arise from reducing our use of oil, not just finding substitutes for it.

Here are links to the previous articles in this series:

  1. Biofuels
  2. Hydrogen and Vehicle Electrification
  3. Natural Gas Vehicles
  4. GTL and CTL
  5. Algae
  6. Barriers to Substitution
  7. Substitution Constraints


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