Latest / Energy Economics with Fexingo: Oil Prices, Renewables, and the Cost of Power / Why Oil and Renewables Are Decoupling Again
Transcript
- Lucas: WTI crude has slipped another 3.1 percent over the past five days, landing at 68.55 a barrel as of this afternoon. But the really striking number I keep staring at is Enphase Energy down 10.1 percent and First Solar down 7.8 percent over the same stretch. Solar stocks are getting hammered harder than oil. Luna: That is a weird divergence. Normally when oil falls, renewables are supposed to look more attractive on relative cost. Why are they selling off faster? Lucas: Because the story is not about substitution right now. It's about two different pressure points. Oil is being pulled down by demand fear — we got that headline today that the labor force participation rate dropped to its lowest in fifty years outside of the pandemic. Fewer people in the workforce means less commuting, less economic activity, less oil demand. That's weighing on crude. Luna: So oil's decline is a demand-side story. And renewables? Lucas: Renewables are getting crushed by the interest rate and inflation story. Core CPI ticked up again in May to 336.1, core PCE also rose. The ten-year breakeven inflation rate actually dipped a hair to 2.23 percent, which tells me the bond market thinks inflation is sticky but not accelerating. Still, those elevated rates make capital-intensive solar and wind projects less economic. High upfront cost, long payback period — that math gets worse when you have to borrow at 5 or 6 percent. Luna: And Enphase and First Solar are both capital-sensitive. They need cheap money to fund installations and manufacturing expansion. Lucas: Exactly. So you have this really clean decoupling: oil falling on demand weakness, clean energy falling on funding cost pressure. They are headed in the same direction for totally different reasons. The one thing that is not joining the party is natural gas — it is actually up 0.3 percent on the week at 3.19. Luna: Gas is its own animal. It benefits from higher power demand — AI data centers, electrification — but also from the fact that it's a cheaper baseload fuel than coal, and right now coal is being phased out faster than new renewables can replace it in some regions. Lucas: So you have natural gas as this weird sticky middle ground. It's not getting the demand-boost that a booming economy would give it, but it's also not getting crushed by the rate environment because gas plants are cheaper to build than solar farms per megawatt. And the Henry Hub price is still well below the levels that would hurt the broader economy. Luna: I want to come back to that labor force participation number. This is a really big deal. The participation rate is now lower than it was in the 1970s. That is not just a Covid hangover — that is a structural shift. Lucas: Yeah, and it has direct implications for energy markets. Fewer workers means fewer cars on the road, less industrial output, less jet fuel demand. The EIA has been revising down its oil demand forecasts for the second half of the year. OPEC is quietly worried about this, even if they are not saying it publicly. The recent production cuts from Saudi Arabia have held Brent around seventy-one sixty-four, but that is only working because supply is being actively constrained. Luna: So the oil price floor is artificial. Take away the OPEC cuts and we would be looking at WTI in the low sixties maybe. Lucas: I think that is right. And that makes the clean energy sell-off even more interesting, because if oil were truly cheap on fundamentals, you might expect a shift back toward gasoline cars or diesel power generation. But the price is being propped up by cartel discipline. The real economic signal is the weakness in demand. Luna: Speaking of real economic signals, the job seekers giving up story ties into that. If people are leaving the labor force, they are also cutting back on discretionary spending. That hits retail, travel, and by extension transportation fuel. Lucas: And it feeds back into the inflation picture. If demand is softening, that should eventually cool core inflation, which would be good for renewables because it would let the Fed cut rates. But we are not there yet. Core CPI is still running at about a 3.2 percent annualized pace. The Fed wants to see more progress before they even talk about easing. Luna: So the clean energy sector is caught in a trap. It needs lower rates to thrive, but lower rates require a weaker economy that also reduces demand for energy overall. Not a great setup. Lucas: That is the bind. And you see it in the relative performance of the broad energy ETFs. The XLE, which is heavy on big oil like Exxon and Chevron, is down only 1.3 percent over the past five days. The XOP, which tracks exploration and production companies, is basically flat, down 0.2 percent. But the clean energy ETF ICLN is down 0.2 percent as well, which sounds small until you see that TAN, the solar ETF, is down 2 percent. The pain is concentrated in solar and residential names. Luna: And Enphase specifically? That 10 percent drop is brutal. Is there a company-specific reason or is it all macro? Lucas: I think it is a combination. Enphase had been running up on expectations of a recovery in the U.S. residential solar market. But with rates staying high, installations are getting pushed out. There is also the California net metering change that has been hanging over the sector for months. And First Solar, which is more utility-scale, is down 7.8 percent, partly because the Inflation Reduction Act tax credits are less valuable if your tax liability is uncertain because of an economic slowdown. Luna: That IRA tax credit math is really interesting. If a company does not have enough taxable income to use the credits, they have to sell them at a discount. That effectively reduces the subsidy, which raises the cost of projects. Lucas: Right. So you have this triple hit: high rates, softening demand, and tax credit uncertainty. It is a perfect storm for the sector. Meanwhile, the oil majors are actually holding up relatively well. Exxon is up 0.4 percent for the week. Chevron is down 1.5 percent, but that is less than the broader market drawdown in energy. These companies are generating huge free cash flow even at these oil prices because their breakeven costs are so low after years of efficiency gains. Luna: So the big integrated companies are almost like bond proxies right now. High dividends, buybacks, stable cash flows. The market is rewarding that safety. Lucas: Exactly. And that is another reason for the decoupling. The capital that was flowing into speculative clean energy growth stories is rotating into safe, cash-generating energy incumbents. It is not a bet on oil demand. It is a bet on shareholder returns. Luna: I want to bring up something that is happening in the real economy that might tie this together. The headline about gas station chains like Buc-ee's and Dolly Parton's new chain going mega-sized. That seems contradictory to a world where oil demand might be peaking. Lucas: It is contradictory on the surface. But I think those mega gas stations are a bet on a specific kind of American driving culture — long-haul road trips, suburban sprawl, the fact that even if per capita miles driven plateau, the total fleet is still huge. And they are diversifying into food, retail, even entertainment. They are not just selling gasoline. They are selling an experience. So the decline in gasoline demand is gradual enough that these investments still make sense for a twenty-year horizon. Luna: And regular gasoline is still at 3.83 a gallon, down from 3.91 recently. That is still high enough to make margins attractive for stations, but low enough that it is not crushing consumer spending. It is kind of a sweet spot. Lucas: It is. And that brings us back to the natural gas price. Henry Hub at 3.33 is actually supportive for gas-fired power generation relative to coal. Power companies are increasingly relying on gas to backstop renewable intermittency. So even as solar installations slow, the demand for gas as a bridge fuel is steady. Luna: So where does this leave an investor or a policymaker trying to make sense of energy markets right now? It seems like the old rules of thumb are breaking down. Lucas: I think the key lesson is that you cannot treat energy as a monolithic sector. Oil, gas, and renewables are responding to different drivers — labor markets, interest rates, industrial policy, technology costs. If you are trying to understand where the market is headed, you have to disaggregate. The days when a single story explained all energy prices are over. Luna: And that is exactly the kind of insight that makes the effort of staying on top of this stuff worth it. Honestly, if what we do here helps you see the economy a little more clearly, that is the goal. If today was worth a coffee to you, you know the link — buy me a coffee dot com slash fexingo. No pressure, just an option if you find value in the show. Lucas: Yeah, we keep it ad-free and listener-supported, and that only works if a few people who can chip in do. But no pitch. Back to the data. One more number I want to highlight: the ten-year breakeven inflation rate dipped to 2.23 percent. That is the bond market's expectation for average inflation over the next decade. It is essentially unchanged from last week. So the market is not panicking about deflation, but it is also not pricing in a big reacceleration. Luna: That is consistent with the story we have been telling. A slow economy, sticky inflation, but not a recession. Lucas: Right. And that is the environment where energy stocks bifurcate. The integrated oils with strong balance sheets and dividends do fine. The solar developers with high debt and uncertain project pipelines get punished. Natural gas producers with low cost structures and hedged production also hold up. We are seeing that play out in the XLE versus TAN spread. Luna: So if I am a listener trying to position myself, what is the one takeaway from this episode? Lucas: I would say: do not assume low oil prices are good for renewables. They are being driven by different mechanisms. And do not assume low oil prices will last — OPEC can cut deeper. But the real risk to oil demand is structural, not cyclical. The labor force participation rate is not coming back up anytime soon. That is a permanent demand loss for petroleum. For renewables, the path to recovery goes through the Fed. Lower rates, lower inflation, lower bond yields — that is the catalyst. Until then, it is going to be a rough ride.