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January 05, 2007

The World's Push for Power
by Chris Mayer

This essay originally appeared at The Daily Reckoning.

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 America!

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.

P.S. At Capital & Crisis, we already hold several other companies that own, manage, build or feed the world's infrastructure assets. In my latest report, I've got another one that sits squarely in the middle of the boom in power grid spending. Find out more here: The Only Stock You'll Need for the Next 10 Years http://www.isecureonline.com/Reports/FST/EFSTGC26.

Regards,

Christopher W. Mayer

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 Mises.org Daily Article series to here in The Daily Reckoning. He is the editor of Mayer's Special Situations and Capital and Crisis - formerly the Fleet Street Letter.

Copyright © 2004-2007 Christopher W. Mayer

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