Transcript: Can Big Oil escape the ‘valley of death’?

This is an audio transcript of the FT News Briefing podcast episode: ‘Can Big Oil escape the ‘valley of death’?’

Sonja Hutson
Good morning from the Financial Times. Today is Wednesday, December 11th. And this is your FT News Briefing. Qatar is preparing to splash some serious cash overseas. And two oil majors are trying to dump some of their clean energy plans. Plus, public pensions really like what they’re seeing in private credit. I’m Sonja Hutson, and here’s the news you need to start your day.

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Qatar’s $500bn wealth fund is gearing up for some aggressive investing. The Gulf state has been increasing liquefied natural gas production, and revenues from that are projected to ultimately double the size of the Qatar Investment Authority. As for where the QIA will park all this cash, it’s looking at the US, the UK and Asia, and it wants to focus on deals in areas like tech, AI and healthcare. The fund has already made splashy investments in the department store Harrods and the Heathrow Airport in London.

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BP and Shell are scaling back their ambitions to become big players in electricity. Both oil majors invested billions of dollars over the past few years into renewables, but they haven’t seen a lot of results. And that’s put BP and Shell in a tough spot between pro-fossil fuel and pro-climate investors. Here to explain is the FT’s Malcolm Moore. Hey, Malcolm.

Malcolm Moore
Hi there.

Sonja Hutson
What exactly were BP and Shell’s ambitions in this space? What sort of plans did they have?

Malcolm Moore
OK. So we have to go back to — I guess in Shell’s case, we have to go back to 2016 and in BP’s case, slightly after that. And both of these companies really sort of laid out a vision of what their future business was gonna be when people stopped buying oil. And their long-term vision was: well, look, we’re gonna keep on producing oil and gas in the short-term, but we’re gonna start getting into electricity, cause electricity is the kind of energy of the future, right? So they invested in, you know, offshore wind, solar, electric vehicle charging. And of course they built up power trading units.

Sonja Hutson
And obviously, like I mentioned, that has not worked out like they hoped it would. And they’re now scaling back. Can you give me a few details about what that pullback is looking like?

Malcolm Moore
Well, so the thing about renewables is that the cost of building all the wind farms, installing all the solar panels, that stuff is difficult to do and it really stretched their balance sheet. And so essentially now they’re saying: well, look, instead of spending billions and billions on building wind farms and so on, we’re not gonna really look for any more of those projects. That’s what Shell has said. BP, meanwhile, has put all of its offshore wind business into a joint venture with a Japanese company called Jera. And that basically moves it off its balance sheet in the future. And what they’re saying is not so much that the business is doing terribly, but we may not have a competitive advantage in this area, which is the case, right. There are lots of renewable companies out there that really are very good at this process. The oil majors are just saying: well, we may not have a competitive advantage in this area.

Sonja Hutson
What’s been the response to this push into electricity from pro fossil fuel investors and also from pro climate investors?

Malcolm Moore
Yeah. So this is the real difficult dilemma that these companies face. And it was sketched out to me by the chief executive of another energy company. He basically said: look, if you’re a publicly listed oil and gas company, your shareholders have bought you because they like the returns of oil and gas. How do you totally transform that shareholder base into a shareholder base that likes green energy? Because those are two different sets of people, basically. And the problem that you have is that your fossil fuel shareholders are gonna sell out as you start building these green businesses and their returns go down. But your green investors are not gonna buy until you hit a certain level of greenness. And so there’s a kind of a “valley of death” that you have to cross because you may not get to that greenness before all of your shareholders are sold out.

Sonja Hutson
So on the path to trying to get those new investors in, you’re in a spot where your share price tanks because no one’s interested in you on either side.

Malcolm Moore
Yeah. So that’s what we’ve seen this year. BP’s share price is down more than 16 per cent. We’ve seen this huge valuation gap between the share prices of US oil and gas companies like Exxon and Chevron, who haven’t really got into any of this electricity business. And the European oil majors, all of whom have been dabbling but are now kind of pulling back.

Sonja Hutson
All right. So how are BP and Shell trying to claw their way out of this so-called valley of death that they’re in?

Malcolm Moore
So they’re taking different approaches. For Shell I think, you know, they’ve got a really sizeable gas business. And so they’re saying: look, we think that gas is gonna be the fuel of the transition. It’s slightly lower carbon than oil. And so we’re gonna focus on gas and then we’re gonna focus on the other things that we know how to do. So, you know, biofuels. And BP is kind of also saying the same. They’re saying: look, maybe less electricity. We’re exploring in the Gulf of Mexico. You know, we’re gonna try and find more oil and gas.

Sonja Hutson
Malcolm Moore is the FT’s energy editor. Thanks, Malcolm.

Malcolm Moore
Thank you.

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Sonja Hutson
Benjamin Netanyahu began testifying in court yesterday. Israel’s prime minister is accused of bribery, fraud and breach of trust. The charges centre around his relations with wealthy businesspeople. Netanyahu taking the stand has been eight years in the making. The trial has been held up because of the Covid pandemic, legal manoeuvres and now the wars in Gaza and Lebanon. The PM’s critics accuse Netanyahu of extending the war in Gaza to delay his day in court. But he’s called the charges “a ruthless witch hunt by the judicial system”. He’s set to testify three days per week moving forward.

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Public pension funds are in their private credit era. They’ve been pouring money into private markets for years now, and they’re looking to scale that up. But this frothy market is still relatively new, and the risks to it aren’t clear yet. The FT’s Mary McDougall has been looking into it all, and she joins me now. Hey, Mary.

Mary McDougall
Hey.

Sonja Hutson
So tell me more about these plans that these public funds are making for private credit.

Mary McDougall
Yeah so, as you say, private credit has been one of the fastest growing segments in the financial system over the past 15 years. And that’s mainly because these huge investors like sovereign wealth funds, big public pension funds have been investing in them a lot. So the market now, depending on estimates about $2tn to $3tn. And there was a big survey that came out recently surveying the biggest funds, and half of the fund said they expected to increase their exposure to private credit over the next 12 months. That was up from a quarter the last time they were surveyed. So while it’s still a small corner of the market, it’s growing very, very quickly.

Sonja Hutson
Can you explain where all this enthusiasm is coming from? Like, what is making these private markets so attractive right now?

Mary McDougall
Well, it’s happened for a couple of reasons. So, one, from an investors perspective, the returns they can get are really pretty attractive. So research showed that annual returns from private credit funds were 10 to 11 per cent last year, which is much higher than regular bond markets. But also after the financial crisis of 2008, a slew of regulations tightened capital requirements for banks. So they started lending less. And that gap has been filled by private credit providers who can offer more flexible and timely financing solutions. So there’s a lot of demand for private credit, too.

Sonja Hutson
But what are some of the risks of private credit?

Mary McDougall
Well, the valuation’s infrequent, the credit quality isn’t as clear or easy to assess. So global regulators are worried that it’s hard to really see what’s going on and understand what systemic risks there might be. And it’s also very interconnected with private equity and commercial banks. So there’s worry that any blow-ups could have wider ramifications.

Another thing the regulators are worried about is the private credit sector is growing so quickly that it’s never experienced a severe downturn. So they haven’t really been tested.

Sonja Hutson
So just how big a deal is this risk? I mean, if there is a correction in the market, what would that ultimately mean for pension funds and for the people that rely on them?

Mary McDougall
Yeah. In terms of pension funds, the allocation to private credit specifically is still pretty low. If you take Calpers, a big public sector pension fund in California, one of the US’s largest ones, they recently increased their target exposure to private credit, but that was just up to 8 per cent. So it’s not gonna have big impacts on pension returns. But ultimately, if they start performing worse, then it means that these schemes might have to lower the amount they can pay you in your retirement. But it is an area that regulators are looking at and hoping for more transparency on.

Sonja Hutson
So we’re still kind of in a wait and see moment for the risks here.

Mary McDougall
Yes.

Sonja Hutson
Mary McDougall is the FT’s pensions correspondent. Thanks, Mary.

Mary McDougall
Thank you.

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Sonja Hutson
You can read more on all these stories for free when you click the links in our show notes. This has been your daily FT News Briefing. Check back tomorrow for the latest business news.