Content thumbnail Energy transition and energy security – complementary or conflicting?
AI Content Chat (Beta) logo

Energy transition and energy security – complementary or conflicting?

Julien Girault, September 2022

Energy transition and energy security – allianzgi.com complementary or conflicting? September 2022 The war in Ukraine has exposed key vulnerabilities in the world’s energy mix, bringing the issues of energy security, affordability, and resilience to the fore. However, this also heightens the near-term risks to energy transition and the Paris Agreement goal of limiting global warming to 1.5°C. A key question to explore now is whether the twin goals of energy security and energy transition can be complementary? Julien Girault Sustainability Key takeaways Analyst – War in Ukraine has accelerated the urgency to define the future energy mix, which requires a fundamental shift towards renewable energy sources by 2050 – A separation of energy consumption from GDP growth is required to reach a trajectory of global warming below 1.5°C – While there is agreement on broad trends, there is still a lack of consensus on the precise energy transition pathways – Prioritising short-term energy affordability over decarbonisation is a risk, although the exposed energy security vulnerabilities may aid the transition – Closing the energy transition funding gap will open the door to investment opportunities in three areas: fossil fuel reduction; transition to renewables; climate-focused solutions In April 2022, the International Panel on Climate has also served to highlight the need to invest Change (IPCC) confirmed that the critical target more in energy infrastructure. of limiting global warming to 1.5°C by 2050 Energy consumption is the starting point. To will be reached only if we halve CO emissions 2 reach the required trajectory, governments must by 2030. Although the world is not currently on decouple energy consumption and GDP growth track, the goal is still within reach if action is (see Exhibit 1). As economies grow, energy taken now – according to the IPCC. Russia’s war demand rises; when energy is constrained, GDP in Ukraine and the consequent threats to energy growth slows. Decoupling the two will enable security have heightened the risks of remaining one measure of the limiting of global warming. behind these targets and failing to fulfil national Further adaptation measures, behavioural pledges made at COP26 in Glasgow. Yet, the war changes and energy efficiency are essential to Value. Shared.

Energy transition and energy security – complementary or conflicting? Exhibit 1: 2050 GDP growth forecast vs. energy consumption/demand modelling 600 250 500 200 400 150 300 100 200 100 50 GDP – USD trillions Energy demand – Exajoules (EJ)0 0 2019 2025 2030 2035 2040 2045 2050 2050 Net Zero scenario (EJ) Current trajectory (EJ) GDP – USD trillions Source: OECD; IEA; BP energy outlook 2022 *Current trajectory: represents the modelling of commitments already made, future ambitions and the pace of deployment of measures. reduce energy demand without reducing GDP growth. carried out extensive modelling. Their expectations about Critical issues to be addressed in determining the future future energy sources vary significantly. energy mix: Analysis of these models does reveal three clear trends: – Consensus on future energy sources 1. Fossil fuels’ share of the mix should fall from about 80% – How these will be sustainable and sustained into currently to 20-30% the future 2. Renewable energy needs to replace fossil fuels, by – Behavioural change leading to lower consumption growing from a 15% share to 60-80% (see Exhibit 2) – Greater energy efficiency and effective offset mechanisms 3. While there is no consensus on nuclear, most models envisage its share remaining significant (even doubling Challenges in modelling the optimum energy mix from around 5% currently to at least 10%). While there is broad public consensus on the need to change More specifically, fossil fuels’ decline would see the phasing our energy mix to meet the Paris climate goals, agreement out of coal and a reduction of up to 80% in oil consumption. on the optimum mix remains elusive. Major international Solar and wind energy would be the driving forces behind bodies like the International Energy Agency IEA), IPCC and the expansion of renewable energy, growing respectively by International Renewable Energy Agency (IRENA) have 20 and 10 times from 2020 levels and, ultimately, accounting Exhibit 2: Sample projections for the share of renewables vs. non-renewables in the 2050 energy mix 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% ) o m ) o m ) o m 0 m 0 o ) ) o m o r o r o r 5 5 r o o r r e u NA r e u NA r e u 0 u 0 e r r e u e 2050Z 2050t E e 2050Z 2050t E e 2050Z 2050t 2 t 2 Z e e 2050Z 2050t Z n R Z n R Z n n Z n - t - e I - t - e I - t - e - e - t Z - t - e t t t t m m m 2 m 2 e t m Ne Ne Ne Ne Ne Ne 2 2 N e Ne Ne ( ( ( 0 0 N ( ( 2022 2022 2022 2022 2022 2022 2 mo 2 2022 2022 A A A A A E k k E k k E k k k k E k k I o o I o o I o o w E I o o o o o o o o o o I o o l l New mo l l New mo l l New moo Ne o l l New mo t t t t t t l l t t u u u u u u t t u u O O O O O O u u O O O O P P P P P P P P B B B B B B P P B B B B Renewables Non-renewables Nuclear Gas (including gas Oil (including biomass & hydro) (aggregate) with carbon capture, utilisation and storage) 2019/2020 2050 Source: IEA; BP Outlook; IRENA; Allianz Global Investors 2

Energy transition and energy security – complementary or conflicting? for more than half of renewables (see Exhibit 3). Hydrogen new technologies. Remove any of these factors and the and bioenergy will play a part too, with double-digit likelihood of success falls. percentage growth in annual production expected (initially “green” hydrogen and “blue” at a later date if it becomes War emphasises greater challenges 1 cost effective) . What’s more, there will be a significant Russia’s war in Ukraine has redirected policymakers’ scaling up of carbon capture, utilisation and storage (CCUS). attention to the concerns of energy security and resilience Such a fundamental shift requires solving some key in addition to exposing supply chain weaknesses for the interconnected challenges, which would otherwise constrain materials needed for renewable energy technologies. War the scaling up of renewable technologies. For instance, how has also emphasised the need for a socially just transition should strategic metals and minerals be sourced? What is the to a cleaner energy infrastructure. Furthermore, the reliance 2 of so many European countries on Russian energy has role of the circular economy in managing e-waste and energy storage? What are the potential renewable energy headwinds forced the continent to address long-standing differences from climate change itself, such as lowering wind speeds and of opinion about base load options, most notably around photovoltaic obstruction from forest fire dust and debris? nuclear energy. Differing pathways lead to uncertainty While none of the main international bodies have provided updates since the war began, the immediate priority The various international bodies base their scenario of supplying affordable energy is stirring up uncertainty planning on differing assumptions. This has resulted in about their model projections. Nuclear and renewable uncertainty. For example, the IPCC has tested a huge energy cannot deliver any near-term relief. Renewable number of scenarios, with over 100consistent with a 2°C energy sources are already operating at full capacity, 3 trajectory and somewhat fewer compatible with the more and lead times for commissioning new infrastructure are ambitious objective of limiting global warming to 1.5°C. estimated at five to eight years. Similarly, it will take time Together, this extensive analysis indicates that the probability to ramp up nuclear capacity after a period of structural of success from even the most optimistic models is only decline. Almost half of France’s nuclear reactors have 50-66% – and still involves a high degree of uncertainty. In either stopped or are undergoing maintenance; there is a many cases, estimates of success are far lower. significant skills shortage in the nuclear industry; and RTE – Yet, there is consensus on what is needed for a successful France’s transmission system operator – has suggested pathway. This includes a commitment by all countries; 2035 is the earliest date for commissioning new reactors. strong global coordination and cooperation, including We are concerned about possible delays in energy transition aligned energy policies; limited energy price volatility; CO arising from interim solutions that are not consistent with a 2 pricing in all countries; a significant acceleration of applying long-term decarbonised energy mix. Exhibit 3: Current renewables energy mix and future renewables energy mix forecasts 2020 Solar Wind 2030 Solar Wind 2050 Solar Wind 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Solar Wind Hydro Modern solid bioenergy Modern liquid bioenergy Modern gaseous bioenergy Other renewables Source: IEA; Allianz Global Investors 1 Grey hydrogen uses steam reformation of methane – carbon emitting process; blue hydrogen adds CCS to grey hydrogen to reduce carbon emissions from hydrogen production; and green hydrogen is produced using decarbonized energy (like renewable energy). 2 The circular economy addresses “how we manage resources, how we make and use products, and what we do with the materials afterwards” and “is underpinned by a transition to renewable energy and materials”, www.ellenmacarthurfoundation.org 3 IPCC, Mitigation pathways compatible with 1.5°C in the context of sustainable development, www.ipcc.ch/sr15/chapter/chapter-2/ 3

Energy transition and energy security – complementary or conflicting? As Russia turns off Europe’s energy supplies, countries are opportunity for investment, with the IRENA World Energy importing liquified natural gas (with twice the environ- Transitions Outlook 2022 report estimating investment mental impact of natural gas), recommissioning coal-fired needs at USD 5.7 trillion annually through to 20304. power stations and resuming fossil fuel exploration and Just as IRENA lays out a map for the next eight years production. Notably, new investments in these short-term for policy makers, asset managers are increasingly energy solutions have uncertain returns as they are assets constructing portfolios with formal climate goal overlays, in danger of being “stranded” in the long term. making use of continuing improvements in climate data Investment urgently needed to close the energy and disclosures. As Allianz Global Investors is a member of infrastructure funding gap the Net Zero Asset Managers initiative – and our parent The most inconvenient truth to arise from the current crisis company Allianz is a member of the UN-convened Net is the shortfall in energy infrastructure investment in recent Zero Asset Owners Alliance – we have formal portfolio decades, especially in Europe. The just-in-time economy commitments for certain assets under management, prioritised cost over resilience and the impact of that is with specific climate goals. However, we are also actively now being felt. Yet that gap means there is a significant seeking the opportunities arising from decarbonisation. Implications of the future energy mix for investors cobalt and natural graphite are critical for batteries and We classify the investment opportunities arising from a fuel cells. As prices for these essential commodities rise, changing energy mix into three groups: formerly uneconomic sites with respectable provenance 1. Support the transition from fossil fuels and governance can reopen. As the net-zero goals for decarbonisation 3. Invest in climate solutions become increasingly embedded into portfolio – Carbon capture utilisation and storage is vitally 6 construction and outcomes, we expect these important for reaching net zero . CCUS facilities 7 to be reflected in several ways: in operation have tripled since 2010 , CCUS – Formalised carbon performance outcomes using retrofits of power stations and heavy industries could cut 8 CO emissions by more than 2GT annually by 2050 , and the carbon key performance indicators. These may be 2 9 “green” (an ambitious threshold versus the benchmark) global CCUS market could grow to USD 7 billion by 2030 . or “transition” (a less ambitious starting point, but – Energy efficiency solutions are multifarious. The many progressively more ambitious). options lend themselves to private sector development, – Net-zero alignment. This can vary from requiring especially those concentrating on alternative or clean companies to have a formal decarbonisation strategy to energy infrastructure. Beyond solar and wind power, validating companies’ Science Based Targets5. potential private sector projects include clean electricity transmission, adapting energy networks to alternative – Formalised alignment of portfolio carbon intentions and energies (eg, hydrogen or green gases) and building proxy voting. supporting infrastructure such as energy storage – Formalised screening of high carbon intensity, or and CCUS. unconventional, energy sources. Three final points for investors to consider. First, climate 2. Seek renewable energy opportunities strategies will evolve as the data disclosed by companies – Investing in clean tech. This includes backing improves, especially regarding the key constituents of firms developing and applying rapidly evolving aligning with net zero. Second, until data improves, technologies like energy storage, green/blue engaging with company management is the only way hydrogen, and grid technology, as well as mainstream to gain a full perspective of climate goals, especially renewable energy eg, solar and wind. for those companies at an earlier stage of transition. – Investing in the raw materials that support the clean Lastly, companies’ activities must be judged within the energy transition. Another consequence of war is the context of the countries in which they operate – collective vulnerability of access to the strategic metals and engagement through industry body participation can help minerals required for producing renewable energy to promote action by governments. As the next global infrastructure. Rare earth elements are essential for forum for such discussions approaches – the UN Climate capturing wind power; magnesium is a key component Change Conference (COP27) – to be held in Egypt’s Sharm of fuel cells, as well as wind and photovoltaic technology; el-Sheikh in November 2022, expectations remain high. 4. Hydro Review, $5.7 trillion in annual investment needed for clean energy transition, March 2022; IRENA, World Energy Transitions Outlook, 2022 (page 26); IRENA, IRENA Director-General Reacts to UNSG Remarks on Energy Transition, May 2022 5. . The Science Based Targets initiative (SBTi) defines and promotes best practice for organisations in science-based emissions reduction targets 6. Stated by Professor Johan Rockström, a director of the Potsdam Institute for Climate Impact Research, during the Allianz Global Investors 2021 Sustainability Days conference 7., 8. IEA, A new era for CCUS, 2020 9. Carbon Capture, Utilization and Storage Market Overview 2030 4

Energy transition and energy security – complementary or conflicting? Allianz Global Investors s a leading active asset manager with over 600 investment professionals in over 20 offices worldwide and managing EUR 578 billion in assets. We invest for the long term and seek to generate value for clients every step of the way. We do this by being active – in how we partner with clients and anticipate their changing needs, and build solutions based on capabilities across public and private markets. Our focus on protecting and enhancing our clients’ assets leads naturally to a commitment to sustainability to drive positive change. Our goal is to elevate the investment experience for clients, whatever their location or objectives. Active is: Allianz Global Investors Data as at 30 June 2022. On 25 July 2022, AllianzGI completed the transfer of investment teams (including 87 Investment Professionals) and USD 101bn of assets they manage to Voya Investment Management as part of a strategic partnership. Two thirds of the assets continue to be managed on behalf of AllianzGI clients outside of the US. Investing involves risk. The value of an investment and the income from it will fluctuate and investors may not get back the principal invested. Past performance is not indicative of future performance. This is a marketing communication. It is for informational purposes only. This document does not constitute investment advice or a recommendation to buy, sell or hold any security and shall not be deemed an offer to sell or a solicitation of an offer to buy any security. The views and opinions expressed herein, which are subject to change without notice, are those of the issuer or its affiliated companies at the time of publication. Certain data used are derived from various sources believed to be reliable, but the accuracy or completeness of the data is not guaranteed and no liability is assumed for any direct or consequential losses arising from their use. The duplication, publication, extraction or transmission of the contents, irrespective of the form, is not permitted. This material has not been reviewed by any regulatory authorities. In mainland China, it is for Qualified Domestic Institutional Investors scheme pursuant to applicable rules and regulations and is for information purpose only. This document does not constitute a public offer by virtue of Act Number 26.831 of the Argentine Republic and General Resolution No. 622/2013 of the NSC. This communication’s sole purpose is to inform and does not under any circumstance constitute promotion or publicity of Allianz Global Investors products and/or services in Colombia or to Colombian residents pursuant to part 4 of Decree 2555 of 2010. This communication does not in any way aim to directly or indirectly initiate the purchase of a product or the provision of a service offered by Allianz Global Investors. Via reception of his document, each resident in Colombia acknowledges and accepts to have contacted Allianz Global Investors via their own initiative and that the communication under no circumstances does not arise from any promotional or marketing activities carried out by Allianz Global Investors. Colombian residents accept that accessing any type of social network page of Allianz Global Investors is done under their own responsibility and initiative and are aware that they may access specific information on the products and services of Allianz Global Investors. This communication is strictly private and confidential and may not be reproduced. This communication does not constitute a public offer of securities in Colombia pursuant to the public offer regulation set forth in Decree 2555 of 2010. This communication and the information provided herein should not be considered a solicitation or an offer by Allianz Global Investors or its affiliates to provide any financial products in Brazil, Panama, Peru, and Uruguay. In Australia, this material is presented by Allianz Global Investors Asia Pacific Limited (“AllianzGI AP”) and is intended for the use of investment consultants and other institutional/professional investors only, and is not directed to the public or individual retail investors. AllianzGI AP is not licensed to provide financial services to retail clients in Australia. AllianzGI AP is exempt from the requirement to hold an Australian Foreign Financial Service License under the Corporations Act 2001 (Cth) pursuant to ASIC Class Order (CO 03/1103) with respect to the provision of financial services to wholesale clients only. AllianzGI AP is licensed and regulated by Hong Kong Securities and Futures Commission under Hong Kong laws, which differ from Australian laws. This document is being distributed by the following Allianz Global Investors companies: Allianz Global Investors U.S. LLC, an investment adviser registered with the U.S. Securities and Exchange Commission; Allianz Global Investors Distributors LLC, distributor registered with FINRA, is affiliated with Allianz Global Investors U.S. LLC; Allianz Global Investors GmbH, an investment company in Germany, authorized by the Internal German Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin); Allianz Global Investors (Schweiz) AG; in HK, by Allianz Global Investors Asia Pacific Ltd., licensed by the Hong Kong Securities and Futures Commission; in Singapore, by Allianz Global Investors Singapore Ltd., regulated by the Monetary Authority of Singapore [Company Registration No. 199907169Z]; in Japan, by Allianz Global Investors Japan Co., Ltd., registered in Japan as a Financial Instruments Business Operator [Registered No. The Director of Kanto Local Finance Bureau (Financial Instruments Business Operator), No. 424], Member of Japan Investment Advisers Association, the Investment Trust Association, Japan and Type II Financial Instruments Firms Association; in Taiwan, by Allianz Global Investors Taiwan Ltd., licensed by Financial Supervisory Commission in Taiwan; and in Indonesia, by PT. Allianz Global Investors Asset Management Indonesia licensed by Indonesia Financial Services Authority (OJK).. © 2022 Allianz Global Investors. 2305592 | 6202