In 2017, the Australian Federal Government is likely to announce higher renewable-energy targets (RET) for 2025/2030 . This will drive greater investment in large-scale wind and solar to displace high-intensity carbon generators, with decentralised solutions too costly to underpin energy policy. This should boost wholesale electricity prices. More importantly, given the limits to renewable-energy penetration, if reliability and security is to be maintained, remaining incumbent generators will be left holding all the cards, and enjoy increased market power. AGL Energy and Origin Energy are set to benefit the most.
South Australia, Queensland and Victoria have already flagged targets of 40-50% renewable energy by 2025/2030. We see risk around a lack of alignment of state-based policies and the increasing challenge of “keeping the lights on”, which recent state-wide blackouts in South Australia demonstrated. Using South Australia as an example, assisted by an industry consultant, our proprietary analysis highlights that there appears to be a 35-40% renewable-energy-penetration limit based on known technology.
Australia is regularly held up by global commentators as a case study for its high solar-rooftop penetration. The concept is attractive but, when combined with work commissioned from Frontier Economics, our analysis reveals solar and battery storage is an expensive alternative to the grid.
In theory, the addition of significant renewable capacity by 2030 should apply downward pressure on wholesale electricity prices. However, in South Australia prices are nearly twice those observed in the rest of the NEM, due to coal-generation retirements and greater reliance on higher-cost gas generation. This raises the market power of incumbent generators that remain in the NEM, with AGL Energy best positioned.
The rising penetration of renewable energy and displacement of high-carbon-intensity incumbent generation should drive wholesale electricity prices higher, and improve the market position of AGL and Origin’s generation portfolios. The combination of an increasingly defensive market position and above-market earnings growth will see these businesses rerate over the medium term.