HyperNormalTimes

Written by our Director of Equity Advisory, Jeremy McKeown, the HyperNormalTimes provides in-depth and considered long-term commentary on major macroeconomic and market-shaping themes.

December 20, 2023

COP Goes Nuclear

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Hope is insufficient – Such is the naivete of climate lobbyists that wishing something were true is often sufficient for them to believe it. An example previously covered is the exorbitant cost of cheap offshore wind power. The increasing subsidies to provide more of this power source that only delivers energy when it is not needed is a classic triumph of well-meant hope over physical reality.

The Congregation – In true believer tradition, at the conclusion of the Conference of the Parties (COP) to the United Nations Framework Committee for Climate Change (UNFCCC) number 28, the UN announced the parties had agreed to the “beginning of the end” of the fossil fuel era by laying the ground for a swift, just, and equitable transition underpinned by deep emissions cuts and scaled-up finance. The tens of thousands assembled in Dubai debated the semantics of a non-binding declaration calling on the gathered nations to “contribute to transitioning away from fossil fuel energy systems.”

Doesn’t give a fig – Meanwhile, in the real world, we spend $8bn daily consuming 100m barrels of oil despite high hydrocarbon taxes and generous subsidies for its alternatives. The laws of physics that make hydrocarbons a highly desirable source of dense and transportable energy don’t give a flying fig for the well-intentioned wishes of the climate lobby.

Onboarding – A more realistic assessment of the recent events in the desert suggests that this COP meeting displayed the first overt sign of Big Oil’s bid to capture the global climate lobby as it increasingly struggles to force its doom-laden worldview on the people who can least afford its prohibitive costs. The location of the gathering and its appointed chairman were two early giveaways. However, the presence of Exxon CEO Darren Woods and executives from 50 other oil and gas companies left none other than the starry-eyed in doubt of the real significance of this year’s event.

Better late than never – Another notable but hardly reported outcome from COP 28 was the first acknowledgement that nuclear energy has a role in our zero-carbon future. For the first time, the UNFCCC included nuclear power in its Global Stocktake of acceptable clean energy sources permissible in pursuit of its desired “swift and equitable transition.” Separately, twenty-two countries agreed to advance the “aspirational goal” of tripling nuclear power capacity by 2050. Remarkably, it has taken over a quarter of a century of such gatherings to accept nuclear power as clean energy, but better late than never.

Only real chance – What is slowly dawning on the 70,000 or so members of the COP travelling circus is that nuclear fission is the only zero-emission technology with any hope of delivering our net-zero targets without committing the world to a prehistoric existence. Despite notable holdouts, such as Germany closing its remaining three reactors as recently as April, the world is pivoting to nuclear. Although the best time to have made the shift was at least a decade ago, the second-best time is now.

It takes longer – However, the nuclear energy model differs significantly from our more familiar hydrocarbon supply chain. Uranium, its core feedstock, represents a fraction of the overall cost of supplying nuclear energy, while its supply chain, from extraction to purification to enrichment, is complex and time-consuming. Whereas hydrocarbon markets can adjust to changing demand patterns in weeks or months, for the nuclear industry, the cycle is measured in years, if not decades.

Hydrocarbon adaptation – This time last year, Europe had a natural gas shortage that most commentators thought would take several years to fill. Twelve months on, the hydrocarbon market dynamics have filled the void, partly by increased shale production from the US following Europe’s willingness to price most of the developing world out of the internationally traded LNG market. The price of natural gas is a fraction of what it was a year ago, a testament to the abilities of the fossil fuel industry to adapt to changing demand patterns.

Nuclear is different – Today, the world is short of nuclear power feedstock, which the spot price of uranium has already started to signal. But only a cursory glance at the long-term uranium price chart indicates market dynamics that differ significantly from hydrocarbons. The oil market aphorism is that the best cure for high prices is high prices. European gas consumers have proven it applies to LNG when sufficient brute force is applied. We are about to discover over what period this aphorism holds for uranium.

Cheapest wins – There is a critical sense in which the uranium supply chain is similar to that for hydrocarbons. The advance of globalisation in the three decades following the collapse of the Soviet Union meant that the West was content to buy its products from the lowest-cost producer. But two years ago, just as Europe found itself overly dependent on cheap Russian gas, its nuclear power utilities were even more dependent on Russia and countries under its influence (principally Kazakstan) for its uranium. The world is now realising that uranium shortages are perhaps trickier problems to solve than those for hydrocarbons.

Disarmingly cheap – Uranium is not particularly scarce. It can be extracted from seawater. However, following the end of the Cold War, the marginal supply was determined by the surplus stock of unused weapons-grade material, not by its naturally occurring availability. Such was the extent of the product’s over-supply that uranium miners bought in the spot market (typically in Russia and Eastern Europe) to supply power utilities under long-term contracts.

Trend to zero – Following the Fukushima earthquake, when many countries stopped new reactor development and accelerated closures, the over-supply increased, and the uranium price collapsed. For the five years after 2016, the price of a pound of U308 hovered around the $20 mark, estimated to be about 20-40% of the marginal cost of supplying new material. Like all market participants, uranium buyers suffer from recency bias, and the utilities came to believe the cost of feeding their reactors was trending to zero. Why buy ahead when prices are falling?

Filling the void – Because of the structural oversupply of uranium, there has been no new prospecting endeavour for over fifteen years. Today, the uranium spot price at $85 lb. is at a sixteen-year high, approximating the marginal cost of supplying new uranium ore deposits. Mining companies must be shovel-ready to get the extraction process going. If only it were that simple. As energy commentator Doomberg said about proposed biomass burial projects, “Any major industrial project – even those meant to save the planet from the abyss – is just one endangered snail away from years of litigation.” It might be plentiful, but no one wants a uranium mine or processing plant on its doorstep or even one that endangers snails.

Reaction – Meanwhile, the demand outlook for uranium is growing strongly. With a fleet of 53 reactors, China is expected to build over 200 reactors in the next 20-30 years. Of these, 25 are under construction, and 43 have firm start dates; the remaining 132 are proposed without tight timeframes. This wave of development is replicated in nearly every other country. Globally, over 500 reactors are proposed, planned, or under construction on a base of 440 operating today. If all these plans come online, the outcome is still some 35% below the 22-nation understanding to triple capacity by 2050, as agreed in Dubai. To be clear, none of these numbers allow for the adoption of small modular reactors (SMRs).

New highs? – For further context, there were only 97 reactors built in the last twenty years, slightly fewer than the 108 decommissioned. Nuclear’s share of global electricity supply has fallen from 18% in 1995 to 10% over recent years. The uranium market is operating today with a damaged and dysfunctional supply function and a demand function entering a period of convexity. If the uranium supply function behaves like the LNG market last year, then the uranium spot price has reached fair value. However, the fragility of supply and the enormity of demand combined with the feedstock’s low contribution to the total cost of nuclear energy implies the U308 price can revisit the 2007 highs of $140 lb. and potentially exceed it.

Jeremy

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