The World’s Push for Power

Do you remember the blackout of 2003?

It was the biggest blackout in North American history, affecting more than
10 million Canadians and 40 million Americans. The loss of power rippled
through the whole Northeast region. Communications failed. Rail services
shut down. Border protection systems failed. Thousands of businesses
closed. There were some reports of looting. It even fouled up water
supplies. Raw sewage poured into open rivers. Millions lived under a “boil
water advisory.” Estimated financial losses totaled more than $6 billion.

Think we’ll see it happen again? I think we will. Over the past five
years, we’ve had several significant blackouts. Those are portents and
signs, reader. We’ll have more.

Why? Because America and Canada have neglected their power grids like
gardeners who have allowed their flowerbeds to fill with weeds. The North
American grid is the largest in the world. Much of it was built in the
first half of the 20th century. Despite its age, from 1975-1998,
investment in North America’s power grid declined every year.

That’s a 23-year stretch of declining investment in maintenance and
upgrades. Things haven’t gotten much better over the last five years.
Investment in our power grid has averaged about half of what it was in the
prior two decades.

Now add to that an ever-growing number of users. The U.S. population just
topped 300 million people. And consider the growing reliance our economy
places on electricity. North American Electricity Reliability Council’s
most recent report found that demand is growing three times as fast as
supply. The capacity margin, or the ability of the system to meet the
unexpected (e.g., extreme weather), is below the minimum target of 15% in
most of the United States.

Put simply, the system is old and overworked. Yet we keep pushing it to
the brink like never before. Mix that aging power grid together with
increasing demand and what do you get? You get a bitter cocktail of
repeated blackouts.

It took a lot of years to dig ourselves this ugly hole. It will take a lot
of years, and a lot of money, to get out of it. The blackout of 2003
opened some eyes. Changes were soon made that would help kick off a
spending boom the likes of which we have not seen in more than 30 years.

The bottom line for investors is this: Investment in the North American
power grid should top $10 billion annually sometime over the next few
years. In total, utilities expect to spend more than $100 billion by 2015
on the power grid.

I could tell you more about the fascinating history of the grid and how we
got to this point. I could tell you about the most congested areas on the
grid – just ripe for blackouts. I could run through the half-dozen or so
biggest projects with estimated costs in the billions of dollars. Surely,
these estimates will prove too low. That’s just the nature of this kind of
work. You start with a $3 billion estimate and you end up spending $9
billion. There’s plenty of precedent for that.

But the spending boom on the world’s power grid is pretty simple in its
outlines. You don’t need to know all the details to make money here, just
as you don’t need to know how that white filling gets in a Twinkie to
enjoy one.

In fact, I haven’t even gotten to the best part yet. The amount of money
other countries will spend on their power infrastructure dwarfs North

Let’s start with India.

I recently finished reading a book titled India: An Investor’s Guide to
the Next Economic Superpower by an analyst named Aaron Chaze. It’s a
well-researched tome on India’s economic transformation. While Chaze is
bullish, as you might expect, he’s downright giddy when it comes to
infrastructure. “Thanks to decades of corruption and neglect that retarded
infrastructure creation,” writes Chaze, “India now has the best potential
for investment in infrastructure, not only in Asia, but in the world.”

A good slice of that potential is in power generation. As with North
America, there’s been a widening gap between demand and supply. That gap
has just exploded over the past decade. Unlike North America, India is
building a lot of brand-new capacity.

Most Indian households – about 60% – still use traditional sources of
energy, such as firewood. Increasing prosperity in India, though, is
leading to rapid change. Chaze writes, “The explosion in demand once these
households start wanting their share of energy is driving feverish
additions to capacity.”

India plans to spend more than $180 billion to create the largest power
grid in the world. Prime Minister Manmohan Singh says he wants all Indians
to have access to electricity by 2012 – a mere five years from now.

India is not the whole story. Just a part of what’s shaping up to be a
monsoon of spending on electrical infrastructure.

China, as you might imagine, also figures prominently in the story. Much
of rural China still lacks basic electrification. China plans to spend
over $140 billion through 2012 to bring electricity to all of its
citizens. That’s hundreds of millions of new consumers. In urban areas
too, demand should soar as households purchase more TVs, air conditioners,
refrigerators and the like.

Outside of China and India, Russia is the next biggest market for spending
on electrical infrastructure. Yes, Russia. (More on Russia later in this
letter.) There is more than $90 billion on tap to modernize Russia’s old
and strained power system.

Then there’s Europe. The story in each of these places is so similar it
feels repetitive. Here’s a snippet from a recent Financial Times article:
“Europe faces the growing threat of electricity shortages because growth
in demand has outstripped investment in new power stations.” Sound
familiar? In Europe, spending on electrical infrastructure comes in at
around $40 billion by 2010.

These are the biggest markets spending the biggest dollars. And yet there
are similar stories in many smaller markets in the Middle East, in Africa
and in the emerging economies of Southeast Asia (such as Vietnam).

This is a mammoth trend, one that will take years to play out. For
investors, the playbook is fairly straightforward. The companies that will
build all this stuff should enjoy a strong bull market in their businesses
over the next five years – at least.


Chris Mayer
for Markets and Money

 Editor’s Note: Chris Mayer is a veteran of the banking industry,
specifically in the area of corporate lending. A financial writer since
1998, Mr. Mayer’s essays have appeared in a wide variety of publications,
from the Daily Article series to here in Markets and Money. He
is the editor of Mayer’s Special Situations and Capital and Crisis –
formerly the Fleet Street Letter.

Chris Mayer

Chris Mayer is a veteran of the banking industry, specifically in the area of corporate lending. A financial writer since 1998, Mr. Mayer's essays have appeared in a wide variety of publications, from the Daily Article series to here in Markets and Money. He is the editor of Mayer's Special Situations and Capital and Crisis - formerly the Fleet Street Letter.

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