The Best Peak Oil Investments, Part I: Biofuels

There are many proposed solutions to the liquid fuels scarcity caused by stagnating (and eventually falling) oil supplies combined with growing demand in emerging economies. Some will be good investments, others won’t. Here is where I’m putting my money, and why. This first part looks at biofuel strategies for replacing oil.

World oil supplies are stagnant, and in the not-so-distant future will begin to decline.  If economic growth continues, demand for oil will increase as well.  This will lead to a long term rise in oil prices, which will only stop if 1) high oil prices or other factors stop or reverse economic growth, or 2) we find some way to use much less oil for the same amount of economic activity.  Each of these scenarios will have winners and losers.  In other words, investment opportunities. 

Substitution

The most obvious strategy for dealing with peak oil is substitution.  If we can find another form of energy in place of oil, then our economy can grow without more painful adjustments.  These strategies are among the most popular, because they hold out the hope that we’ll be able to transition with a minimum of pain.  That is wishful thinking.  There will be a market for petroleum substitutes, but those substitutes are likely to be more expensive and supply-limited than oil currently is.  We will have to adapt in other ways as well as using substitutes.

The leading substitutes include:

  1. Biofuels and Biochemicals
  2. Electric vehicles
  3. Hydrogen
  4. Natural Gas

Biofuels and Bioplastics include a whole range of technologies that convert plant and animal matter into useful substances similar to the extremely useful transportation fuels, chemicals and plastics that we currently get from oil. 

Only some biomass is easy to convert into fuels, like sugars and starches into ethanol, and oils into biodiesel.  But it is no coincidence that such biomass is also useful as food.  We eat these things because our bodies can easily convert them into useful energy.  We don’t eat wood chips or grass because they are difficult to digest and convert into energy.   Biofuels substitution strategies all essentially involve diverting biomass from somewhere else in the economy (or land on which to grow the biomass from other forms of agriculture) to producing oil substitutes.  The more inputs we divert, the more expensive the products we might have used those inputs for become.  This produces a commodity squeeze, when the inputs become more expensive but the price for the output is set by the oil price.  Such a commodity squeeze led to the current problems in the corn ethanol and biodiesel industries.

Fortunately, we currently have a lot of biomass in our economy that is currently wasted.  Waste oil can be easily converted into biodiesel, and companies are looking at ways to convert the various components of Municipal Solid Waste into ethanol or other biofuels.  Municipal solid waste has a lot of biomass in it, but its uneven nature means that it’s hard to convert into ethanol.  Some of the best such waste is industrial food waste because it is othen quite uniform, and homogeneity makes it easier to convert into fuels. 

Although we are an extremely wasteful society, the amount of waste that can usefully be converted into oil substitutes is small relative to the amount of oil we currently use.  That means that as conversion technologies are developed, there will be a scramble for useful feedstock to convert to biofuels.  Since the limiting factor for biofuels is likely to be feedstock, the companies most likely to benefit from a trend towards biofuels are the people who own the feedstock.  For example, corn farmers have done much better out of the ethanol boom than the ethanol producers.  Although many ethanol firms have filed for bankruptcy, and the ones that survived are barely profitable, corn acreage and prices are still high compared to 5 years ago as you can see on the chart below.

Monthly corn price chart from tradingcharts.com

Conclusion

The best biofuels investments are likely to be the companies that own or can produce the feedstocks.  I particularly like the companies that own or control municipal waste, since it’s currently free or even has a negative price (i.e. people will pay you to take it off their hands.)  That’s why Waste Management (WM) was one of my Ten Clean Energy Stocks for 2010.  I also like forestry companies, since they currently produce forestry waste that could become a valuable feedstock for cellulosic ethanol, or simply be co-fired in existing coal plants to generate electricity without net carbon emissions.

I’ll take up some of the other substitution strategies in the next part of this series.

DISCLOSURE: Long WM.

DISCLAIMER: The information and trades provided here are for informational purposes only and are not a solicitation to buy or sell any of these securities. Investing involves substantial risk and you should evaluate your own risk levels before you make any investment. Past results are not an indication of future performance. Please take the time to read the full disclaimer here.

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Tom Konrad, PhD., CFA is a portfolio manager, financial analyst, and freelance writer specializing in renewable energy and energy efficiency. He is currently looking for a money management firm to sponsor what he believes would be the first dividend income oriented green mutual fund, based on a strategy, the Green Global Equity Income Portfolio, he has been managing since December 2013.  He is Editor at AltEnergyStocks.com.  Tom lives in New York's lower Hudson River Valley. He volunteers for the environmental nonprofit community, runs, and is a woodworker. He's currently using those woodworking skills to renovate (and upgrade the energy performance) of the 1930 farmhouse he lives in with his wife.

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