How you could profit from Latin America’s energy crisis

Los Porteños, the citizens of Buenos Aires, are used to hot summers. But this year, things got out of hand. The weather was more than uncomfortable – it was dangerous.

A friend of mine, a local, described it as “hell on Earth”. The city of 12 million people was converted into a giant cooker as temperatures hit 38°. The sweltering conditions caused electricity demand to spike, because people turned up their air conditioning units. And that’s when the situation got really bad.

The record power demand was too much for Argentina’s creaking power grid, which crashed under the pressure. With fatalities mounting and power shortages lasting several weeks, locals took to the streets to vent their anger. They blocked roads with burning tyres and banged on cooking pots in their customary protest style.

I’ve spent a few years in Buenos Aires, and it’s one of my favourite Latin American capitals, but after speaking to my friend, all of a sudden the British winter didn’t seem so bad.

Argentina’s ‘inferno’ will spread

The Buenos Aires heat wave sparked a round of finger pointing between the government and private energy companies. The ruling party blames profiteering energy firms, while the energy suppliers blame the country’s national grid.

There have been all sorts of proposals, from expanding power imports to implementing daylight saving time. But the only feasible long-term solution is to invest more in Argentina’s power generation and distribution network. And at the moment I don’t see that happening.

With the weather now back to normal, the creaking electricity system will be able to limp on for a bit longer. And with the political class trying to stave off a possible recession while gearing up for next year’s elections, no one is going to make the hard decisions needed to fix the problem.

But this isn’t just an Argentinian issue. Power demand is booming across Latin America and the region’s electricity infrastructure is struggling to cope. The World Bank expects Latin America’s power consumption to more than double between 2010 and 2030 and estimates that $430bn of investment will be needed to meet demand.

And as companies and governments look for foreign capital to fund the investment, it should throw up opportunities for New World readers.

Latin America’s power problem

Almost anywhere you look, Latin American countries have power problems. In Colombia, the guerrilla group, FARC, spent most of 2013 blowing up remote, rural power infrastructure.

Meanwhile in Chile, the problem isn’t that stations are being blown up, but that they’re not being built in the first place. The country, which is Latin America’s richest per capita, has a strong environmental movement whose protests have postponed several power projects.

For example, the new government of Michelle Bachelet recently shelved a plan for a hydroelectric plant in Chile’s glacial region, following complaints from environmental protestors.

In Brazil, plans for large new hydro stations have also been set back by environmental protests. The delays are a big problem for a country with a history of blackouts that occur when low rains hit output at the existing hydro plants. And over in Mexico the situation is more complex.

On the face of it, the energy reforms should create huge opportunities for private power companies. But in practice, it will take time for the dust to settle.

I recently interviewed one of the commissioners at the Mexican energy regulator and he explained to me that there would likely be delays while new bodies created by the reforms carved out their own fiefdoms in the power industry.

But as serious as some of the challenges are, Latin America can’t afford to wait. In Chile, power demand is being driven by the country’s mining sector, which makes up more than half the country’s annual exports and a fifth of its GDP. The sector’s energy consumption has increased by 60% over the last decade to nearly 24 terawatt hours (TWh), and is expected to nearly double again by 2020.

As for Brazil, its growing population and rapidly expanding middle class is pushing up electricity consumption. It’s believed that Brazil needs to add about 6,000 megawatts (MW) of new power generation capacity every year for the next decade.

To give that some context, Britain’s biggest power station, the coal and biomass-fired Drax station in Yorkshire, has a nameplate capacity of almost 4,000 MW.

Mexico, with its rapidly expanding industrial centre, is another country where consumption is climbing fast. It’s estimated that power demand will rise by around 2,000 MW per year.

Here’s how LatAm can avert an energy crisis

It’s clear that Latin America is going to build lots of power stations and transmission lines over the next few years – the question is: what type of energy will they produce?

At the moment, Latin America’s power matrix has a unique profile. It is dominated by hydropower, which generates around 65% of the total and gives Latin America the least carbon intensive power system in the world. But in recent years hydropower’s position in Latin America has started to slip as the huge mega projects that were so popular with the region’s dictators proved harder to pass in the democratic era.

So, governments have turned to natural gas, with plants that can be built quickly and are less likely to attract environmental opposition than coal or oil.

In Brazil, Mexico and Argentina, demand for gas now outstrips local production and they have been forced to turn to expensive LNG (liquefied natural gas) imports. That pushes up the overall cost of power generated from gas, but eventually all three should begin to tap their own considerable shale gas reserves.

Another interesting growth area – albeit from a tiny start point – is renewable energy. For example, research group IHS believes that Latin America will install 700 MW of solar panels this year. That’s a tiny amount of power, but more than double the amount for 2013. In total, Latin America’s solar industry is expected to grow at 25% per year for the next decade.

Wind, which is much more established in Latin America, is also expected to grow sharply. A report from Navigant Consult calculates that Latin American countries will install 33.5 gigawatt (GW) worth of wind farms between now and 2022, which clocks up at a growth rate of more than 20% per year.

How to invest in Latin America’s energy transformation

We looked at this theme back in March 2013 when I noted that Spanish wind turbine maker Gamesa had heavy Latin American exposure and was well-placed to benefit from the region’s power problem.

Well, since then, it’s gone up more than 300%, making a handy profit for anyone who took me up on my advice. But even though I am still bullish on Latin American renewable energy, I don’t think I would buy back into Gamesa today. It’s a lot more expensive than when I first tipped it.

Instead, I like the look of Aim-listed Rurelec (Aim: RUR), a small independent power producer that focuses on Latin America. The firm hit the headlines in 2010, when one of its biggest assets was nationalised by Bolivian president Evo Morales.

Since then, any commentary on the stock has focused on if it will get compensation from Bolivia. An arbitration court in The Hague recently ruled that Rurelec should get about $50m, though the Bolivians are taking their time to pay up. The problems have battered the share price.

While it’s understandable that this dispute dominates coverage of the stock, I am more interested in some of the company’s other moves. Since receiving a lesson in Latin American populist politics from Morales, the firm has decided to focus on some of the region’s more business-friendly countries.

It is building a gas-fired plant in Chile and snapped up hydropower assets in Peru. Regular readers will remember that both countries are part of the Pacific Alliance, the exciting new Latin American trade bloc, and are committed to attracting international investors.

In Chile, Rurelec is building a modern 250 MW combined cycle (which basically means that it is more efficient) gas power plant. Given current objections to hydro and coal in the country, gas seems the most likely to escape the protestors’ ire.

Rurelec’s customers will be mining companies in the north of the country, who are more than happy to pay a good price for reliable sources of power. The company has also applied for a secondary listing on the Chilean stock market. If successful, the move could boost the share price as Chilean power companies tend to trade at a premium.

Rurelec also made a move into renewables by acquiring a portfolio of small greenfield hydro projects in Peru. The plants are at different stages of development – some are being built, while others are still just plans – but in total, it gives Rurelec the right to develop about 300 MW worth of hydropower in the country.

One advantage with these small ‘run of the river’ projects is that they don’t require huge dams and thus avoid the protests and delays that hit larger projects. They can also be a good way of supplying electricity to remote places that are far from the grid.

Finally, Rurelec also has a 50% share in a 136 MW gas-powered plant in Argentina.

Don’t get me wrong, this stock has plenty of risks. The share price has fallen 50% in the last few months alone. But I think its strategy of targeting business-friendly countries with a power crunch is a sound one.

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