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Seeing Further: The increasing role of electrification in the energy transition

By Michael Chen, Nikko AM Global Equity Analyst  
21 May 2024

Energy consumption forms the backbone of modern lifestyles, and global economic growth is fundamentally dependant on energy supply growth. But as we consider the transition from fossil fuels to clean energy alternatives, the scale of the challenge is truly monumental. 

Today, over 80% of the primary energy used globally is still fossil fuel-based. And for all the impressive progress made with renewables, solar and wind still account for a combined 5% of primary energy used. The net zero transition won’t happen without a huge shift towards electricity. Substituting fossil fuel processes with electrons are some of quickest and cheapest ways to reduce our reliance on fossil fuels. Therefore, electrification, and changing the way electricity is generated, holds the key to decarbonising the global economy.

To learn about Future Quality investment trends beyond electrification, download Nikko AM’s new investment guide: Seeing Further in Changing Times.

The Power of Electrification: What You Need to Know 
We think of electrification as taking a step back to holistically think of the full energy supply chain. Electrification encompasses demand, to source and the infrastructure that connects it all. This wider viewpoint should be prioritised over narrowly focusing on individual technologies or products of the electrification story such as EVs or solar farms. So, electrification is a refocus on achieving effective decarbonisation by growing both demand and supply of electrons.

Changing the global passenger vehicle fleet from petroleum to electron powered would be meaningless without reducing the carbon intensity or power generation or upgrading the infrastructure needed to support the new demand and supply centres. Similarly, as supply of renewable energies such as solar continues to grow, there needs to be sufficient demand for these new electrons. New demand centeres will absorb the additional total capacity, whilst having diverse demand pulls will enable spikes in supply to be utilisied. 

Electric technologies, from electric vehicles (EVs) to heat pumps, are generally more efficient than their fossil fuel equivalents, helping to greatly reduce energy waste and reducing final energy demand. And when paired with renewable energy sources such as wind and solar, electrification offers a pathway to reducing the carbon intensity of our energy system. A decarbonised energy grid would drastically reduce the emissions associated with electricity use. And there are other notable benefits to be gained from electrification. It would drastically reduce transport emissions and improve air quality, particularly in urban areas. It would also improve energy security by reducing the world’s reliance on volatile fossil fuel markets.

Yet today, electricity only accounts for about 20% of total energy consumption. That is expected to grow to almost 30% by 2030. In other words, we’re already entering a period of exceptional growth as all sorts of industries look to realise the gains that can be achieved through electrification.

More energy investment is needed, for years to come
Energy transition investment grew to just shy of $1.8 trillion in 2023, this was up 17% year-on-year and almost double 2020 levels, according to BloombergNEF.  That’s an impressive amount by any yardstick. But when thinking about achieving net zero targets, that number is still three times lower than it needs to be. BloombergNEF estimates we need to see $4.8 trillion invested annually through the end of the decade to align with the Paris Agreement’s net zero trajectory.

The transition towards a heavily electrified future presents several challenges. For example, modernising the electricity grid requires significant upfront investment to upgrade lines, integrate renewable energy sources, and develop innovative energy storage solutions. Electrifying transportation through expanding charging networks for EVs is another big investment. But clearly, there are also great rewards for those companies that are able to solve these challenges. 

Where we see Future Quality electrification opportunities
While geographies or sectors do not drive our allocation choices, we do look at broad market themes – such as electrification’s role in energy transition – that are likely to boost capital spending over the long term regardless of the macro cycle. These themes are leveraged from a bottom-up perspective by identifying the companies most likely to benefit from such tailwinds and meet our Future Quality standard of attaining and sustaining high returns on invested capital. These are companies with high-quality franchises and defensible moats that allow them to deliver a high return on investment. Here are two examples: 

Future Quality company example: Schneider Electric
French multinational Schneider Electric is the global market leader in electrical distribution within buildings and electrical infrastructure. As you can imagine, it’s a company that is already playing a crucial role in broader electrification efforts, both from consumers and industrials, that is coming through in their revenue drivers. 

When a household acquires an EV, for example, it increases its electricity demand by at least 40%. A similar increase is needed when consumers switch their energy supply to heat pumps. Similar energy efficiency initiatives are leading to demand spikes on the industrial side. Schneider Electric is a clear beneficiary of these demand-side developments.

Future Quality company example: Amphenol
Similarly, US-based Amphenol is one of the world’s leading suppliers of advanced interconnect systems, sensors and antennas, with the automobile industry making up about a quarter of its total business. The company is not only a big beneficiary of the transition to EVs, particularly those built with the highest specification and safety features. The company’s growth is set to continue thanks to broader industrial electrification in agriculture equipment, and across medical and renewable energies. 

So, while both of these businesses are by no means ‘moon-shots’ or media darlings, they are high-quality franchises firmly positioned to benefit from the shifting energy landscape, and from electrification in particular. 

The long-term value presented by ‘Future Quality’ companies
We define Future Quality firms as those companies beating the fade or on a path to leadership. Companies that are efficient with capital not only today but more importantly for tomorrow, who will attain and sustain rewarding returns. If the energy transition gives these businesses an additional tailwind, that’s even more encouraging. 

For more information on our global equity investment process, please download Nikko AM’s new investment guide: Seeing Further in Changing Times.


If you have any questions on this report, please contact:

Nikko AM team in Europe
Email: mailto:EMEAenquiries@nikkoam.com


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