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  • Writer's pictureRyan Lynch

Energy Values

Updated: Nov 1, 2023

To accurately evaluate the relative ranking of cost for energy commodities, one needs to understand not only the constituent drivers of micro fundamentals amidst a dynamic macro environment, but also the chemical profile of each commodities energy density function. With a lack of uniformity in securitization principles, rules, and preferences- the available price discovery afforded by exchanges does in fact further obscure a true understanding of value when looking at rank structures. That is, one needs to adjust the parameterization to yield a more elegant view of where value is, for in order to asses the difference, one must first know the magnitude.

With increased (and necessary) pressure to abate negative externalities associated with carbon energy carriers, the relative valuation becomes more complex. Where to levy the CO2e price, which price, whose rules become binding, and whether to include Scope 1/2/3? Simply, these are only a few of the difficult question facing policy makers who seek to amend incumbent behaviors on the demand side.

To propose a framework, MOIC has reviewed an energy formulaic approach to ranking energy commodities. Using a singular locational delivery (freight and netback adjusted), a uniform carbon levy (formula and price) and generally agreed principle on energy density functions; a time series of levelized prices can be reviewed. These figures are not adjusted for sovereign or sub-sovereign policy goals (such as tariffs/duties/taxonomy/tax-incentives), instead they are ranked solely based on levelized price equivalency in $/MMBtu basis.

This tabular approach can give policymakers a view on pathways to achieve their goals ahead of COP28 and other meetings, while comparing energy carriers on a pari-passu basis. Further, and perhaps more importantly for energy security, the volatility (annualized) of each commodity is calculated to holistically convey pathways which may be robust to market dynamics and malefactor influence.

Of course, the price levels and volatility are not the total story for commodities, there is term structure and liquidity, as well as participant profile and asset-level investments. The non-carbon carrier space is undergoing a boom in investment which should implore some volatility on prices, however likely will be mitigated by lower levelized costs and better infrastructure. Carbon on the other-hand is seeing a less robust influx of capital, and instead looks at constituent consolidation. This may impose again, some cause of caution on advocates of the latter, however the scope of the micro-foundation need to be broadly understood in the geo-economic macro sentiments.

When analyzing a policy or investment pathway, it is important to understand where the present value sits relative to the future, and the nuanced that go into the construction of such levelized costs. To understand, we analyze the monthly time series (on an energy equivalency basis), and plot the monthly series as indexed to their normalized 2-year forward strip. What this does is give us a benchmark of where the possible investment, or more broadly, transaction risks lay, for policy and investors to back any given technology (or energy pathway).

Above we show "liquid hydrocarbons", named crude, gasoil, fuel and NGL's; mostly because these are the closest possible carriers for energy generation in the so called "power-stack". Generally, we can see some key findings. First that crude and gasoil have significant normalized backwardation, perhaps associated with negative demand outlook on back end, and supply chain snarls on front end associated with Russian/Ukraine and Israel/Hamas, amongst other broader concerns. NGL's and in structural contango, which indicates perhaps a lower-order bid into the olefin and other end-use chain. Fuel oil while backward along with crude, perhaps is more a liquidity concern surrounding uses as a bunker fuel so we leave that aside.

Below, we look to the more traditional power generators (excluding renewables/hydro/nuclear). Here we see a very traditional seasonal pathway to price appreciation/depreciation (Roll). Gas stands out on the fundamental side, perhaps because of the perceived increase in supply-side fundamentals for global LNG arbitrage, and thus a more fluid price discovery into traditional "demand" markets as Euro-Gas represents. The latter also speaks to the tracking to US gas including netbacks. What is interesting is the stability that H2 provides. while infrastructure risks abound, broadly the ability to create, capture and deliver (to use an MIT-ism), carbon reduction at a comparable levelized cost to gas, and minimize the variability should present an opportunity for policymakers.

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