Transcript of The Value Perspective podcast episode – with Arjun Murti

29/03/2022
Murti

Authors

Juan Torres Rodriguez
Fund Manager, Equity Value
Andrew Lyddon
Fund Manager, Equity Value

Our guest on this one-off episode of The Value Perspective podcast is Arjun Murti, who you may remember from our ESG miniseries last November. He is a senior adviser at a private equity firm  and a board member of ConocoPhillips.

Now, the Russian invasion of Ukraine represents a devastating attack on Ukrainian and European democracy and our thoughts are with the people of Ukraine as they courageously defend their freedom. As investors, of course, we must also consider the implications of this crisis on energy markets and, in this episode, Juan, Andrew and Arjun discuss the effects the ban on Russian oil and gas has had on a global scale – including in emerging markets; how the narrative around energy security has come to the forefront and what that means for the energy transition movement; and how different supplies of energy must react to the crisis over both immediate and long-term horizons. Enjoy.

JTR: Arjun Murti, welcome back to The Value Perspective podcast! It is a pleasure to have you back. How are you, sir?

AM: I love your intros, Juan! And it is great to be back. Thank you for having me again.

JTR: Last time you were around was when we did our miniseries on ESG. We had a lot of fun on that episode, a lot of very good ideas and raking over what was happening back then. Since that recording, you have launched a Substack. Can you tell us what that is about?

AM: You know, Juan, our conversation was in part one of the motivations to launch a Substack – it is arjunmurti.substack.com and the title is Super-Spiked – and it was really my growing frustration with how everyone talked about this energy transition era. As your audience now knows, I think, I come from an American’s perspective – my whole life and career has been focused here, covering originally the traditional sector and now, increasingly, a broader swathe of renewables and new energy companies and so forth.

But there is such extremism: people are in the bucket of either ‘I am only about climate’ or ‘I am only about fossil fuels’ – and neither extreme makes sense. These joint issues of energy availability, affordability, security and reliability absolutely have to go hand-in-hand with our goal to have as low a carbon and environmental footprint as possible. So that was the motivation and, really, my conversation with you and Alex Monk in November illustrated that need to have just a different type of dialogue than we are having out there.

We have since, unfortunately, had this this very tragic situation in Ukraine and it has illustrated some of the challenges we talked about in the last podcast, Juan, and something that has been a feature of my Substack, which is trying to address the totality of our energy and climate challenges and not just one issue. It cannot just be either only about climate or only about energy affordability or any one thing. We need to deal with it all.

JTR: We could not agree more. Your Substack started as only a written format but you have moved to videos as well and we can find them in YouTube. How is that going?

AM: I am in my early 50s – though I do not feel as old as that number makes it sound – and one of the things is you have to connect in a modern way. At the beginning of my career, it would have been written reports that you mailed out to people and then PDFs and emails but I think people consume information through either podcasts or YouTube videos. Younger people tend to react better to some of the video formats while I am still an old-fashioned reader and so I am really trying to appeal to as broad a group as possible.

I would also say, for a long time, I was a Goldman Sachs analyst – writing for our clients but it became de facto public writing, if you will. And then it has been seven years where I have had a much more private role as an adviser and board member and consultant and these kinds of things. I got sucked into Twitter a little bit when oil fell to minus 37 and, again, I had to make friends with social media. That is something, as an older person, I think you need to do – you need to engage with it in a way that works for you.

In my case, a lot of my former clients – a lot of executives – are actually on Twitter so you push all the political stuff that makes you mad to the side and you focus in on energy or markets or whatever it is you are interested in. The limiting factor of Twitter is, it is hard to get a lot of nuance in there. Again, I really enjoyed our conversation and it was one of the motivations to say, I need a longer-form style of writing here. That was the Substack but then sometimes you cannot explain something in written format. It is better in your own words – hence the video and audio feeds.

AL: Hi Arjun – good to chat to you. My first question, just to kick off, will start at the global level and some of the consequences of the higher oil and gas prices we are seeing. Perhaps outside Western Europe and the Western world, there is a push and pull, I guess. So the high prices drive you more quickly towards the transition to renewables and some of the other kinds of new power generation we have talked about before? Or – in the developed world, in particular – do they force you back to some of the cheaper, more immediate energy sources, such as thermal coal? Putting all other considerations aside, how do you think the simple fact that we have much higher prices now affects those dynamics?

AM: I feel like this is the classic Rorschach test – that whatever your preconceived view of the world was, this example of Russia-Ukraine helps confirm it. So if you thought we needed only to transition to renewables and forget about all the old stuff, this is going to say, hey, I want to double and triple down – look how bad being dependent on oil and gas is. If you are in the opposite camp and somewhat sceptical of how quickly people want to transition, this will be the proof point that – hey, see, we told you we needed more oil and gas.

But, again, I really would push back on both extremes – we need more of ‘all of the above’ and we need the whole collection of energy issues to be addressed. In dealing with something like energy security, the idea that you would want to limit oil supply in – and I am going to use a judgmental term here – friendly, ‘good’ countries like the US, like Canada, frankly, even like areas of the North Sea and Europe ...

Why would you want to limit those areas, if all that happens is you end up being more dependent on ... I am going to call them bad areas – places like Russia? Again, I am American, so I am going to put Iran in that bucket and there are other countries that I think are geopolitically quite challenged. In a world where we still currently have 100 million barrels a day of oil demand, I do not understand that perspective that we should attack and limit the areas we have control over, which are US, Canadian, European oil companies and their oilfields, as an example.

But the opposite also does not hold – which is, clearly we need to continue to focus on transitioning. As an example, one of the big disappointments has been the lack of fuel-efficiency gains. That is especially true in the US – I think it is less true in Europe, which has done a better job on this front. But in the US, really since the last major energy crisis – the Arab oil embargo years – we have had 40 years of almost no fuel-economy gain. And one of the things that will come out from this higher, more volatile price environment will likely be a shift back towards more fuel-efficient cars, and potentially accelerate the shift to electric vehicles.

And so my basic message is – you always need to solve for the totality of energy issues. We are still using 100 million barrels a day of oil demand so it makes no sense to limit oil supply in the US, Canada or Europe, and therefore become more dependent on Russia. On the other hand, we still want to invest in things like wind and solar.

I think nuclear should be one of the ‘Let’s turn back to it and think about it’ type technologies – as a result of this recognition that both wind and solar are intermittent and we need baseload power. Some of that baseload power is going to have to come from natural gas during the transition – for probably quite a long period of time – but nuclear comes back. So we are always trying to solve for all these things and I reject the idea that either this is confirmation we should only have oil and gas or confirmation that we should only have renewables – neither of those philosophies makes any sense.

AL: So if that middle way you are laying out there is the best way to go, I guess the people who sit in the middle of it are the oil majors – in terms of the way they direct their capital expenditure – along with some of the state-owned enterprises. Previously, I guess, the pressure was to put as much of that capital expenditure as possible towards renewables. So if you were sat within one of the oil majors today, how would you be weighing up that capital allocation decision versus maybe a year ago?

AM: I want to make sure I am clear on a couple of points. I do not see my view as a compromise – you did not use that word but I want to make sure the audience understands that. I am not suggesting we should either compromise on climate or the environment, or that we should compromise to ensure oil or gas or something else is cheap. We are trying to solve for availability, affordability, reliability and security, with as small a climate and environmental footprint as possible.

And I think the only way to do that is to ensure that, during the transition era, while we are ramping up new technologies, of which wind and solar is still new ... it is not always the cheapest. That is one of the misinformation pieces that comes out of the climate crowd. It is certainly cheap in some places but how cheap is it when the sun is not shining? It is infinitely expensive at that moment in time. So you darn well better either have battery storage – ideally – or other forms of back-up power generation.

How is it that the places that use the most wind and solar tend to have the highest electricity costs? Why is that? Is the problem wind and solar? Or is the problem that they did not have enough back-up forms of baseload power? So I get a push back from the oil and gas crowd saying, well, see – this proves wind and solar is not the cheapest. So I do not necessarily like the phrasing ‘middle ground’. You did not use the word ‘compromise’ but I think it often feels that way. We are trying to solve, in a very positive way, all of these related issues.

On another part of your question, I do not believe the oil majors sit at the middle on this, I think the majors sit at the spectrum that ensures we have available and affordable ... I am just going to call it ‘baseload energy’. And that is currently gasoline and diesel fuel for people who continue to drive ‘ICE’ [internal combustion engine] vehicles – which is, by the way, the vast bulk of people on Earth, right.

And, of course, that is heavily skewed towards rich countries – the US, Canada, western Europe ... Japan, I guess, fits into that bucket. There are still billions of people who are very energy-poor, who deserve the right to have mobility and other energy-reliant solutions. So the oil and gas companies – the majors – sit at the portion of the energy mix that is going to satisfy those needs until the new stuff is ready.

As I talked about with Juan last time, I am personally sceptical that the majors – and, for that matter, the smaller companies – in the oil and gas space are going to be the leaders on new technologies. I think we need new companies to lead on new technologies. The most obvious example of that is in the electric vehicle space. It was not General Motors – which has been working on electric vehicles for a gazillion years – or Ford or, with all due respect to the car I love and drive, BMW or Mercedes who led this charge, it was Tesla.

And Tesla is one of the clear victorious companies. I do not want to get into ... well, we can, if you want. But this is not a debate about how clean or not batteries are or the lithium mine issue. I am not here to support the oil industry backlash. I personally like electric vehicles and I think they are part of the solution but, so far, we have got one new technology company – Tesla – that has led the charge. And I think that is going to be true on whatever we are talking about.

It is absurd to think majors are going to be leading solar or wind companies – even though some are trying. Carbon capture – that is an area that could be a core competency. Renewable fuels like renewable diesel and so forth – that is an area that is compatible. It may make sense for them to do venture capital portfolio opportunities. I think they are ultimately going to have to sell a net-zero Scope 1 and 2 barrel. I think they are responsible for cleaning up methane. That is a huge area of opportunity – that the oil and gas industry today can directly clean up and have a discernible impact on lessening warming. Cleaning up methane with today’s technologies is totally doable.

But I do not believe the majors sit at the nexus of energy transition. And I actually think it has been one of the misunderstandings, if I want to be generous, or misinformations – the majors are barely important to world oil supply so how would we possibly think they are relevant to energy transition? And so these policies that try and force major oils or oil companies to not do what they do best, which is invest in oil and gas – and, by the way, they did not even do that great of a job on that in the last decade, as we talked about in the last podcast.

The return on capital was very poor between 2010 and 2020 – somewhere between zero and 5% is a bad return on capital. So, in the industry they know best, they did not do a very good job. And so I do not believe they sit at the nexus of this – and I think it is been one of the policy mistakes to try and put all this pressure on major oils to change. We need them to produce as much low-cost oil and gas as they can and we need them to do it with as low or zero methane as possible and, ultimately, work to Scope 1 or 2 net-zero barrels for whatever they produce.

JTR: That is a good segue into my next question, which is around the topic of the current narrative – because it seems like the narrative has changed radically from the last time you were on the pod. There is not that much talk about climate change at the moment and there is a little bit more of a push around the importance of energy security. So do you think the new energy transition movement is gone?

I do not think it is gone – nor should it be gone. Clearly, when you have this Russian invasion of Ukraine, it is natural that people are going to be very focused on energy security. But energy transition, if done ... I am going to say correctly but, when I say correctly, it sounds like I have the answer. I do not have the answer. I think I am able to articulate where it has been done incorrectly, which has basically been the strategies of the last three years – probably, with all due respect, most notably in Europe but we see elements of that here in the US and Canada as well.

But I do not think energy transition is dead – nor should it be. I think what we are seeing here is a recognition that you cannot only solve for one thing. You cannot only solve for climate. And even in that, again – as we talked about last time and has been a feature of my Substack prior to Russia invading Ukraine – you are not on track to solve climate under the previous climate-only focused policies that some of the world had. In fact, I think we were previously on track for ‘worst of all worlds’ – of high and volatile commodity prices, without any appreciable change to our CO2 trajectory, in part because issues like energy security, availability and reliability were not being adequately addressed.

Prior to Russia invading Ukraine, it was very clear that reliability in the areas that use disproportionate amounts of renewables has not been good. It is easy to blame renewables but, actually, I am not sure they deserve the blame. They are what they are – they are a variable, intermittent source of power and their utilisation rates have very wide ranges to that. So the problem would have been the policymakers who put in place those policies to get rid of the stuff that is dependable at the times wind and solar are not working. So whoever decided to prematurely shut nuclear plants; whoever prematurely decided to walk away from natural gas – or, for that matter, even coal.

I am not a coal proponent – absolutely, we need to move towards lower-carbon forms of energy. But you cannot expect people to go without energy, which is what happens when you become ideological about these things. Environmentalists have the role of explaining the environment to us. They deserve significant credit for raising this issue of climate and warming and so forth. But to think they are going to be the ones who put in practice business policies that say we should only invest in solar and wind? That is a huge problem.

It is like asking investors today to be the ones who police the environment – that is equally absurd, right? The job of an investor is to generate returns for the people who invest in their funds. It is not to determine environmental policies – that is what governments are for. And so there has been a real misallocation of responsibility – the environmentalists are trying to run businesses by telling everyone solar and wind are low-cost everywhere and that is all we should do. Investors are now trying to run environmental policy by telling BP and others how they should reallocate to virtue-signalling ESG initiatives. And it is all messed up. We need a more sensible conversation on this, because we are trying to solve for anything.

But is energy transition dead? It absolutely should not be because we need an energy transition to ensure we have, in the future, lower-carbon forms of energy – but also that everyone on Earth, who is entitled to energy availability, gets it as well. We need to solve for all. There is no such thing as a silver lining in a war – this is a terrible situation – but I think this is highlighting that we need to address the totality of energy and climate issues and not just focus on one of them.

AL: You highlighted how we are going to need those oil and gas reserves to provide us with power over the transition, which may take a long time, and I guess the focus has come back on those oil and gas reserves that the majors and others have. Do you think they have enough in the ground today to take us through that transition or are they going to have to resume exploration and production (E&P) again? Previously, our concern was they would spend a lot of money and earn very poor returns on renewable energy. That is probably still a concern but is there also a risk now they go and do that on traditional E&P assets, as you mentioned they have in the past?

I have personally been someone – again, prior to Russia-Ukraine – who thought oil demand had not peaked and was unlikely to peak before 2030 and maybe not until 2040. My notional oil-demand estimate was 110 million barrels a day, which is a slower growth rate than what historically would have been the case but certainly a much higher growth rate than any of the net-zero diehards would have projected.

If we are in an environment where Russia may be offline – and they are not offline today, but who knows what the future holds when you have such a major player ... depending on the calculation, they are the second or  third largest producer of oil in the world and obviously a top-two producer of natural gas, which is critical to Europe. You guys know all this. But we do not know what their fate is and we do not know what it means for them to be a pariah state.

So when you have higher prices and when you have volatility, that on the margin should lower one's future demand forecast. So, in the context of somewhere between 100 and 110 million barrels a day, I actually think we have plenty of known resources. This is not like the 2000s, when it was very clear that the major oilfields that were developed during the Arab oil crisis years were starting to peter out and we needed to find new sources of reserves. We tried deep-water all over the world; we tried Arctic; we did oilsands – and, a decade later, it turned out US shale was the answer.

Over the last decade, US shale has been 80% of that oil supply. If you throw in Canada, 90% of net oil demand growth has been met by North America – and overwhelmingly by shale. Today, I think, we have lots of known resources to address the likely demand scenario. Let’s say someone is more in the peak-oil demand camp, clearly you have enough resources for someone like myself, who thought there would still be some growth – I think you have enough resources.

But what does that not solving for? Who are we forgetting? As people who live in the US and Europe, we are forgetting the billions of people who are far less fortunate than anybody listening to this podcast. There are three billion people – plus or minus – who use less energy than the typical American’s refrigerator uses. That is ridiculous. It sounds like a joke – except it is extremely sad for those people. There are two billion people who will come onto Earth over the next 30 to 50 years – mostly in the same energy-poor countries.

If you have a peak-demand forecast – including myself, by the way – of somewhere between 100 and 110 million barrels a day, you are essentially making the call these people will remain energy-poor. There is no chance those people are going to be driving Teslas – no chance at all, right? And whatever BMW comes up with ... GM is making a Hummer EV – is this even an environmental car? The Hyundai Ioniq, I think, is an interesting electric vehicle ... all these people are going to need energy and they absolutely will take any forms of energy.

So I think there is a de facto call that these people are not going to get the degree of energy and power that I honestly believe they deserve to have. Now, that is not purely a policy-driven issue – it can be the nature of the governments of these countries. Perhaps they are not set up to develop economically. Perhaps the governments and the people who run these countries do not distribute wealth. There are a lot of issues here well beyond the scope of an energy analyst.

But what about those people? How the heck are you going to provide energy for them? Now, hopefully, over the next five years or 25 years – I will give that as the over-under – we will develop new technologies. So will nuclear fusion work? We clearly need regular nuclear to be expanded in Europe and the US. Natural gas is going to have to be part of that solution. And then, hopefully, the oil companies will figure out ways to decarbonise their barrels so that those other three to five billion people – people who are not European or American or Canadian or Japanese – have the same sort of opportunity to live longer, to live healthier and to have cleaner air.

Look at a map of where air quality is good or bad – it actually fully aligns with fossil fuel usage. That is not to say fossil fuels drive clean air – any environmentalist would be laughing at that type of comment. It does speak to the Wealth of Nations, though, and that is where there is a correlation. It is the use of energy that allows you to be stronger economically and then spend on environmental causes – energy usage, economic health, living longer and the environment all absolutely go together.

So I think we are very dependent, if we want to decarbonise and provide energy for all, on new technologies that do not exist yet or that have not scaled up. Hydrogen is an example – we have no idea the degree to which that is going to work. Nuclear fusion? We do not know yet. There is a bunch of stuff that is going to have to come on.

JTR: Let’s circle back to something you said at the beginning of the pod and which you have also touched on in your Substack – are we not setting ourselves up for further problems in the future by looking to replace production from Russia by reaching out to countries like Venezuela or Iran, which could easily turn less friendly?

AM: I think that is absolutely right, Juan. I actually put out a note over the weekend that suggested we should focus on generating more ‘good’ barrels and have fewer ‘bad’ barrels. And in this note, I specifically delineated between, essentially, the state of Texas and the province of Alberta versus Russia and Iran. And I think there is a path to having 10 million barrels a day of net exports out of North America of oil – we are focused here on oil. Right now, thanks to the shale revolution, as well as steady oilsands growth over the last decade, US plus Canada supply and demand are essentially in balance – that is a liquid number, there are some plusses and minuses there. I think there is a path to 10 million barrels a day of net exports.

Now, in both countries, these are private enterprises and so, to some degree, governments will say there is only so much we can do. And I agree – it is not up to government, thank goodness. We still practice some form of capitalism in the US. But there has been explicit hostility from both the current US and current Canadian administrations toward things like pipeline developments. And that is not to say, for example, the Keystone XL pipeline is the answer – that is not the point. That pipeline probably needs to be rebranded, quite frankly.

But the idea is we should be encouraging US and Canadian growth – however we do it. In the US, we call it the ‘bully pulpit’, right? It is a private industry but why not have as a national objective that we are going to strive to produce all the oil that US, Canada and our allies need? And that would include Europe. Hopefully, it would include a country like India – where their allegiances are, I think, has always been a little bit of a question but India should be brought into the fold.

There are other countries in Africa and Southeast Asia that would benefit ... 10 million barrels a day, by the way, about equals the net exports from Russia and Iran. It is not that those barrels would go away, they would continue to get produced – oil is a global business – but at least then we are not dependent on President Putin and whoever comes after him. We are not dependent on mullahs in Iran. I do not understand how that is not the most no-brainer thing you can do.

Again, there are limits to what federal governments can do in the US and Canada. What they have been doing is creating obstacles – and especially it is on the pipeline and infrastructure side. Now, some of that comes from environmentalists and there is a need for the federal government to push back on environmentalists who make us less safe, right, and who make us more dependent on Russia and Iran. How is that OK? You want to be an environmentalist? Go protest Russian oil. Go protest Iranian oil. Why would you protest US and Canadian oil when you are unable to protest Russian and Iranian oil? It is insane.

The world uses 100 million barrels a day – we only get 20% of it from the US and Canada? Why wouldn’t we want 30%? And then put pressure elsewhere? How could this even be a debate? We should all be aligned – this is the heart of the energy transition that is in the interest of environmentalists. Are you trying to tell me Russia is going to have a net-zero Scope 1 and 2 target? Are you going to tell me they are going to be able to verify and identify methane leaks? I am critical of the oil industry for slow-footing methane – I understand why they did it 10 years ago but it is not OK anymore. We should have independent verification.

These technologies are progressing – there has to be some allowance for the fact we are not going to have perfect certainty today. Companies and technology and environmentalists are all going to make mistakes on measuring this stuff and there has to be some grace on that so that people are compelled to actually sign up for this stuff. But how can you possibly think the climate and environmental outcome in Russia and Iran – and there is a whole bunch of other countries we could add to that list that I will save for another day – is going to be better? There is no way it is going to be better. Go protest those other places and, in the meantime, let’s assist the cause of availability, affordability and security.

I am in favour of banning SUVs and there are plenty of other things you can do. But the idea that you want to restrict supply in friendly places, like the state of Texas and the province of Alberta, and think you are not going to end up in a situation of more oil out of Russia and Iran – you are insane.

Now in the case of Venezuela, I do hope that country gets its act together because that is actually a great co-flow oil resource that US refiners historically have been set up to run. Venezuela was a huge success story in the 1990s and I hope for the benefit of Venezuelan people that, at some point, that country can get back on track. I presume that requires a different government than it has today. I am not the world’s foremost authority on Venezuelan geopolitics other than to say, out of all this list of challenging places, Venezuela is the one I would hope can turn itself around at some point in the future.

JTR: How long would it take the US and Canadian authorities to put policies in place that would allow those 10 million barrels to hit the markets – because, if it is about infrastructure, that just takes time and, in between, we do not know how long the Russian situation will go on for?

AM: Thank you for the opportunity to clarify that remark. So that was a 2030 goal – I think these things take plus or minus a decade to happen. If you go through the pieces, I think the US shale industry – which is overwhelmingly going to be the Permian Basin in Texas – they are on track to achieve the five million barrels a day cumulative growth contribution to that 10 million barrels a day number I articulated. There are always things governments can do to get in the way of that but that, frankly, is more up to the companies. It is a 3% to 5% growth rate so it does not even necessarily require some huge change in the capital – they still need to be profitable.

I actually think, for shale, the onus is on the oil companies to figure out methane. I keep coming back to this – it is their responsibility. And I would actually say with that ‘Get off our backs with all your hostility’ feeling that oil companies have, the quid pro quo or the deal, if you will, would be there needs to be a much tougher methane ... I hate to use the word ‘regulation’ because, ideally, it would be self-regulated. But it cannot just be the leading companies, which I believe are making good-faith promises to reduce their methane – it actually has to be industry-wide. No-one should get off the hook. I say ‘zero-methane’ although an engineer would push back on the word ‘zero’ – that is probably more aspirational – but you can do a lot more than you are doing today as an industry.

I think the parts that need help is the Canadian piece. So, of my 10, a little around three comes from Canada and that is where, while you are currently able to truck and rail it out of the oilsands – how is that good? That does slow the pace of investment because the differentials are wider. It is undoubtedly worse for the environment to have well-sands trucked. It is ridiculous – it is trucked and rail out of Canada. You need pipeline infrastructure export capacity to the west, to the east and to the south.

If I was Canada, I don’t know that I would want to be solely dependent on US markets but the pipeline to the west is called Transmountain – and I think it is seeing some degree of progress in getting completed, perhaps. It was historically called Keystone XL, which is too toxic – so call it the Freedom pipeline or the Net Zero pipeline, whatever the heck you want to call it – and then some pipeline East. The Canada infrastructure needs help. It seems improbable that the current governments in both countries are on-track to do that but who knows? I mean, this is a very traumatic situation going on right now and so, hopefully, they will have a mindset shift.

The third piece was actually demand reduction – and that is, again, the biggest missed opportunity I have seen. This is particularly true of the US’s fuel economy. With a period of what I call a ‘super-vol’ environment, where we spike to some high number but then we pull back down – I actually think that is the kind of environment where you will see Americans naturally shift back away from SUVs towards more fuel-efficient cars. But, man – there is a lot that can be done to accelerate that.

Our current fuel-economy standards are a complete joke in terms of how they are actually executed – and that has been bipartisan. It is easy for people to say Trump rolled them back and Obama did this and Bush did something different – it has been a bipartisan effort over 40 years to basically excuse SUVs, which do face higher miles per gallon – but they also get heavier every year. There is a huge disparity between real-world driving and lab driving. And so there has been an built-in excuse, essentially, to obviate ... we have missed our fuel-economy targets by 80% to 90%.

What we are trying to do here is de-link healthy GDP growth from oil-demand growth – and fuel economy is the best and fastest way to do it while you are allowing for the electric vehicle market to build up, which does take time. It is still absolutely a car for the rich or mass affluent, and only because we have highly developed credit markets in the US can someone who may be middle-class have an opportunity to make car payments and perhaps buy electric vehicles. But they are still luxury vehicles – make no mistake.

And we probably need battery breakthrough technology, like solid state batteries, to really get this to scale up to where it is the preponderance of the market. But I think that will happen. It is just not going to happen by 2030. So all this ‘We have to deal with everything immediately’ has been unhealthy to discussion and debate. We are absolutely, I believe, as a society committed to decarbonising, but you have got to do it on a timescale that is actually possible. You cannot make stuff up – you cannot make up technology progress that does not actually exist.

The stupid debate that you are going to skip blue hydrogen to go straight to green hydrogen is absurd. That seems to be more of a European debate. Like, come on – people need actual energy. It is not fair to the masses. It is not fair to everyone who is not affluent – the top 5% or 10% can deal with this, everyone else cannot. Be realistic about this stuff. Being realistic does not mean sacrificing long-term carbon reduction goals – but it also does not mean creating a sense of panic and alarm. That just causes a worst-of-all-worlds outcome where you do not actually deal with climate – let alone anything else. Then you end up where we are today.

JTR: So if all this is 10 years away from happening – if it does happen and the stars align and the US and Canadian governments push for it and capital allocation goes in that direction – what happens in between?

AM: There are no great solutions in the short term. Russia currently exports about seven million barrels a day – about five of that is Europe, historically the US and related places. It would be very difficult if that were ... now, it is not actually disrupted. Right now, what you are seeing is a sort of a self-sanctioning going on, where – and I will actually give them credit – BP was the first to pull out.

You can debate whether they should have pull out 10 years ago, but they were the first to pull out – at least in this current crisis environment – and it caused everybody else to pull out. And not just Total or Royal Dutch Shell – not just oil companies but McDonald’s and Starbucks. It was a quote on the Grant Williams podcast, I think, where no company could prove to be to the right of oil companies when it came to economic moralism! So I will give BP credit, in this small sense, for kicking off the wave of divesting from Russia.

But what does that mean for Russian supply? The history of pariah states growing production is a list of essentially zero, right? Venezuela was producing over three million barrels a day – today, it is half a million barrels a day. Iran, prior to the Iranian Revolution, was producing north of five, close to six, million barrels a day – it has been between two and four million barrels a day ever since. It has been 40 years since the Iranian Revolution and they have been a pariah state the entire time.

Russia? While you can say they were never on the list of most popular countries that you would love to go and visit, they were not a pariah state. In the West, we have generally not been fans of President Putin – that is certainly true of Americans and probably dates back to the Cold War and the vestiges of that. But Russia itself has been a viable state – at least from an energy and other basic commodities standpoint. And, as you know, there is plenty of other stuff Russia and Ukraine produce, like wheat and other industrial commodities, that the world cannot currently do without.

At least as it relates to oil, it is not for the most part sanctioned today. But there is going to be real pressure and so I worry less that we lose five million barrels a day of exports tomorrow – we could, that is possible – but I would say that is ‘tail risk’ kind of stuff. But it is more the slow erosion in Russian supply. We are not on track to replace Russian supply declining by some amount over 10 years. Maybe their economy implodes faster than supply in the next one or two years – there are just a whole bunch of variables – but the current self-sanctioning, that is causing a loss of supply to the market that is almost irreplaceable today.

Saudi probably has some surge capacity but even the core OPEC countries ... prior to Russia-Ukraine, part of my call was that they are closer to being at their effective spare capacity. And you saw – again, prior to Russia-Ukraine – you saw them starting to miss their quota increases or their monthly production increase relative to what they were allowed to do. So there are lots of signs that some of the leading Middle East countries, which otherwise have been very dependable oil suppliers, are kind of getting near the limit. So there is no great answer. The answer is only a very unfortunate thing to say – it is demand destruction. That is the near-term solution. You have got low above-ground inventories, you have got low spare capacity and it would take time to make up for any near-term shortfall in Russia.

AL: We have talked about where the West may be forced to go as a result of what is happening but I am also interested in where Russia might get forced to go to find demand for what it is looking to sell. Is there anything to talk about there in terms of impact on energy transition?

Given the great need the whole world has towards having available oil supply, I think the baseline assumption for most people is that, let’s just say, the US and Europe at some point cut off Russia – in terms of taking the upper side. It would obviously be quite challenging for Europe to do that and I am understanding of why they have not – then the presumption is that China and India would get those flows.

But it is the classic ‘easier said than done’. So exactly what is the nature of Chinese and Indian refineries? Exactly. Oil is a physical business. It does not operate in the cloud. Even the cloud, by the way, does not operate in the cloud. There is no actual cloud, right? It is a bunch of data servers in a whole bunch of different countries – but guess what they need? Energy, right? Metaverse meets universe – and we are seeing that in real time today.

Oil is a physical business. So you do not just get to say, if the US and Europe ban Russian oil or Russia soft-sanctions into these countries, it is going to freely flow to China and India. Clearly some will make it there but will the totality of it make it there? And look – I do not know the answer. I suspect some of it will get reabsorbed because there will be great pressure – especially if oil spikes higher – for someone to take those flows.

But what happens when it starts backing up? What happens when you force shut-in of fields? These are not always newer fields. If they are old fields, do they come back? Do they require capex? Again, the history in pariah states is, when you start having problems – for whatever reason – you sometimes ...  you have never got Iranian oil supply back. It has been 40 years. Venezuela is down 80%, right? Libya is not back to its 1.4 million barrels-a-day pre-Gaddafi highs. Iraq may be the closest example in that, prior to the Iran-Iraq War of 1980 ... I want to say Iraq was four and a half or five million barrels a day? I do not think they were six and they are probably the closest – 40 years later – to getting back.

And so I think that is going to be the question for Russia. How can the world adjust? And, to some degree, you will accelerate movement away – you will have a weaker economic situation most likely. But does this catalyse the next technologies? Does this catalyse a renewed nuclear investment wave? That takes time – but that would be a good thing. Look at all the major changes ... the last time we made major changes in the western world was after the Arab oil embargo and we stopped using oil as a power-generation fuel.

That was the time when we stopped buying General Motors and Chrysler in America and we started buying ‘Japanese imports’, as the phrasing went – the Toyota Camrys, the Honda Accords. These are much more fuel-efficient and Americans made a huge shift. We tried to limit the speed limit to 55 miles per hour – Sammy Hagar has a famous song about that. His song, I cannot drive 55, which came out in 1984, basically started the SUV wave, right. We had had enough of it.

But we went to fuel economy during the last Arab oil embargo. So again, there is never a silver lining to war –that is very disrespectful to the people enduring war. But can you have fundamental change to demand? Can you have stimulation of new technology? Can you have investments and things you need to have investment in like nuclear, like natural gas?

And, by the way, absolutely it should all come methane-free. So you hold all companies accountable to the ESG standards they claim to have – and you do it in a way that makes sense for society so that people have affordable and available supply.

These are the kind of things that can happen. They all take time and no-one should be under any illusions. Again, there is misinformation coming out from some of the energy-transition folks that is easy or pain-free. It is absolutely painful but it is absolutely necessary to go through. Again, I remain an optimist – in fact, perhaps even more of an optimist – that energy transition is going to be on-track. It is going to have to be. You are not going to be able to make up for Russian supply – you are going to have to accelerate transition.

JTR: If you were in charge of German energy policy, what would your short, medium and long-term plans of action be?

AM: You know, Juan, ich spreche ein bisschen Deutsch [and Arjun continues speaking a bit of German, which we will not even pretend to transcribe] and I will switch back to English here. As an American, I always really dislike it when non-Americans weigh in on what America should do. I think people can critique American oil companies or any aspects of what the country does but not ‘What should America do as a country?’ So I am going to refrain from giving advice to Germany, despite having this clear love of Germany and some of its heritage, and just say this: I think any country needs to be self-reflective about what has worked and what has not.

Like, if you went to overwhelming amounts of wind and solar and you also chose to shut down your nuclear plants but you did not contract for non-Russian gas, something about all of that needs to be re-evaluated. And it is definitely not my place to tell the German people they should restart their nuclear plants – that would be my opinion, but it is actually their decision. If they do not want to do that, are they OK with either being out of power – which no-one is OK with – or are they OK with more coal or natural gas?

There are no near-term solutions that are easy here. But these are the kind of choices they were always on-track to make – because it never made sense to go to overwhelming amounts of wind and solar while you are shutting down the stuff you can still depend on. That is not the fault of wind and solar – it is the fault of politicians and bureaucrats. It is a different mentality, I know, in Europe but the regular people of the world need to push back on the experts who are not taking responsibility for their policies.

This is not the fault of wind and solar – I have got to keep saying that – it is the fault of people who prematurely retired a bunch of other stuff that was needed and did not recognise that these intermittent sources of power are intermittent right? This is what we know about it – that is not a mystery, right? It is not, oh my gosh, the wind did not the blow today or did not blow for an extended period – weather patterns are variable. We are going through climate change, for goodness sakes!

So it is up to the German people to decide that. I think there are some encouraging signs – for example, seeing the German people are going to spend more on defence. I am not a military expert but I am just saying some major mindset changes seem to be occurring. I do think this sort of elite bureaucracy, which seems to be more accepted in Europe – it is definitely not an American thing.

That is the part I find mystifying as an outsider and as an American – why would you want to be dependent on the European Union, the European Central Bank or these other unknown and seemingly unelected people? Maybe there are elections that I am unaware of.

There is a need to listen to regular people on this stuff – who need energy, who need any form of power – and that is true in the US, it is true in Canada and it is going to be true in Europe. So I guess I will be optimistic that – and clearly I am going to stereotype here – the German people are smart and they are going to figure this out. So I think we will end up with good outcomes in Germany but there are no easy solutions in the near term.

JTR: That is really interesting. Arjun Murti – thank you very much for your time and for coming back to The Value Perspective podcast.

AM: Thank you for having me here. It is always a pleasure to speak with you and your colleagues.

AL: Thanks, Arjun.

AM: Thank you, Andrew.

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Juan Torres Rodriguez
Fund Manager, Equity Value
Andrew Lyddon
Fund Manager, Equity Value

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