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High energy prices to pave the way for new energies

Credit Suisse Global Investor Focus "Energy"Oil prices have jumped in recent years and analysts expect them to remain high. This will entail a rise in the use of known energies such as gas, nuclear or coal and the emergence of new energies like wind, solar or geothermal. But the analysts at Credit Suisse believe that the biggest reaction to high energy prices will come in the form of innovation by manufacturers, such as new cars that use less energy, and less use of plastics and other materials derived from petroleum or new products to make houses more energy-efficient. High energy prices will especially impact the airline and transportation sectors, but also the food and packaging business. China will witness an even greater dependence on oil due to its expanding infrastructure. These are the key findings of the Global Investor Focus "Energy", published by Credit Suisse.

The analysts at Credit Suisse believe that the biggest reaction to high energy prices will come in the form of innovation by manufacturers, as the depletion of oil reserves will make it necessary to reduce dependence on oil in manufacturing processes. The Kyoto Protocol is another catalyst for these transformations, as it sets the guidelines for emission rights within the European Union and around the world in the future.

Investors can profit from the rise in use of known energies
The first significant transformation will stem from a rise in the use of known energies. Gas is already fully benefiting from rising oil prices. Major natural gas companies with large proven reserves are seen as relatively safe investments. Liquid natural gas offers new opportunities and even a technological breakthrough if developed on a wide scale, which is planned in the United States. More aggressive investors might wish to get exposure to LNG.

Coal is also likely to witness a sustained demand growth. Investors can participate in the rising energy demand from China as it continues to consume one third of total world coal production to cover two thirds of its energy needs. China will witness an even greater dependence on oil in the years to come. The country has significantly extended its infrastructure network: road construction to transport people and freight has risen at a double-digit rate per annum in the past ten years, a trend unlikely to be curtailed soon.

Nuclear power is likely to overcome public mistrust and make a comeback in the next years. It is likely to benefit from its competitive pricing (production costs are EUR 24 /MWh versus EUR 31 for natural gas and EUR 32 for coal) and its non-polluting quality.

Emergence of new energies offers investors new opportunities
New energies, however, offer the greatest potential: high oil prices and the costs associated with pollution make these energies competitive again. Several alternative energy stocks have posted a strong performance, as investors increasingly become sensitive to this issue. Most stocks in the sector have posted double-digit performances since the beginning of 2005.

Wind power, already covering 5% of Germany's energy needs, will most likely play a key role in satisfying new energy needs, particularly after the wide-scale implementation of offshore windmills, which catch wind on a 24-hour basis. Lighter and more resistant materials enable large-scale developments of windmills. Windmills are benefiting from strong government support in Europe. Germany, for instance, intends to produce 10% of its energy from wind by 2010. Investors should keep an eye on wind turbine generator systems producing affordable electricity for both domestic use and small industrial applications.

Solar energy is expected to become a significant ancillary provider for home appliances due to new silicon devices, better conductivity and new technologies like photovoltaic. This area is characterized by a flurry of small companies - investors should focus on value-added providers, like silicon developers. Installation companies are the most profitable segment in the solar power supply chain.

Geothermal energy is also likely to flourish, as new technologies enable deeper drilling, a process which becomes profitable when oil prices are high. Geothermal systems will transform private homes. Storing water under the earth and using a pump to bring hot water into heaters is the most economical heating method known to date. The aim is a zero emission house, using geothermal systems, solar panels and smart technology. Few companies offer an investment in pure geothermal activities, as the projects are usually deployed by large utilities.

Biomass has also started to perform. Mixing gasoline with biodiesel from sugar cane for use in cars and trucks was the biggest wide-scale deployment of alternative energy in Brazil during the 1980s. Nowadays, 90% of vehicles are running on this fuel, which the country also wants to export.

Traditional engineering companies will benefit from the production of new energy infrastructures and turbines. In addition, several small companies that have recently entered the market - active in the fields of solar power, biodiesel processing, or producing equipment that generates electricity from waves - offer potential despite higher volatility.

Airline, automotive, food and packaging sectors most affected
High energy prices are likely to have the biggest impact on the airline sector. Due to overcapacities and poor cost focus, weaker traditional airlines are more unlikely to be able to cope with high energy prices. Discount airlines are already more competitive, but smaller, hard-discount airlines will have more difficulties than well-established discount airlines.

The rest of the transportation industry will also undergo changes, primarily the automotive sector, which is illustrated by the success of hybrid cars. An increasing number of drivers are likely to prefer hybrid cars over traditional cars, not only for their low gasoline consumption, but also due to the developing trend and wave of environmental political correctness leading consumers away from SUVs and towards energy efficient cars.

The packaging business relies mostly on plastics. As the possibilities for glass packaging are limited, new wrapping technologies, such as starch packaging could be the next revolution in the industry. Oil costs are also important to the food industry, making up as much as 20% of final retail prices, due to oil-based fertilizers, industrial cleaning and cooking processes, and, most of all, transportation costs. Rising oil prices will likely reinforce the dominance of major food producers, who can pass transport costs on to retailers. Traditional retailers, however, are unlikely to pass costs on to the end-consumer, given the competitive pressure from discounters. This could marginally improve the competitiveness of local farmers.