Why Oil’s Fall Means Little for Solar’s Rise: Part II

21 Jan 2015


Falling oil prices will have an extremely limited impact on wholesale or retail electricity prices, which are the core economic drivers for the future of solar.

In part I of this blog, I discussed the primary drivers of the decline in oil prices. Today, I’ll cover what effect, if any, this may have on solar.


A.     How Relevant Is Oil To the Electricity Markets Going Forward?

If oil prices had fallen thirty years ago, when a number of American generation units were using petroleum liquids for fuel, there would have be a significant ripple effect on electricity pricing as fuel costs decreased. In 2014, the impact will be negligible because, by and large, the U.S. does not use oil to produce electricity. Instead, we use an increasing amount of natural gas, some nuclear, and although still small, an exploding amount of wind and solar.

The graph below utilizes the U.S. Energy Information Administration (EIA) data to map out electricity production by fuel source on a monthly basis from January 2001 to July 2014. Seasonal usage is apparent, with the highest months being July and August. The brown line represents coal which has decreased approximately 50% in the last decade. The light blue line represents natural gas eating coal’s lunch. Petroleum is that light green line that effectively disappears in 2009 with a small bump in January 2014 during the polar vortex.

The steady increasing dark green line is wind and solar, although it vastly underestimates the solar industry’s production since the EIA does not measure behind the meter solar systems which account for around 60% of solar installed capacity. (Imagine a graph of telephone penetration in the U.S. with an asterisk on it mentioning that cell phones were not included.)

yuri chart 2

EIA Data: http://www.eia.gov/electricity/data/browser

B.     Do Falling Oil Prices Impact Natural Gas?

While falling oil prices will not directly impact the price of electricity, might they do so indirectly because of their influence on natural gas? Likely not. In fact, oil prices are likely to have a shrinking impact on natural gas prices.

Pearson’s “r” is a fairly common way to measure how two variables correlate to one another. A perfect correlation is graphed as a straight line, and is represented by a 1x. The closer to 1x, the higher the correlation. Between 1995 and 2010, monthly natural gas and oil prices tended to rise and fall in concert, as illustrated below. The r value was .84x, which is a fairly strong indication of correlation. Interestingly, for the 15 year period between 2000 and 2015, the r value for these two commodities dropped to .39x. That change is likely driven by a divergence in uses. Natural gas is primarily used for heating buildings (roughly 60%) and producing electricity (around 31%), while oil is primarily used for producing gasoline (roughly 46%) and heating oil (roughly 20%).

Put another way, in 2001 the United States utilized around 17 million MWh of electricity a month from petroleum liquids. In 2014 that number was just 1000 MWh. Natural gas increased from roughly 40 million MWh a month to approximately 65 million MWh a month in the same period. Non-hydro renewables increased from around six million to well over 30 million MWh per month.

The graph below represents monthly average oil, natural gas, and electricity prices in the U.S. between 1995 and 2015 (the futures market). What should be clear is that while oil and natural gas were closely aligned between 1995 and 2009, the two commodities effectively broke up in 2009.

EIA Data: http://www.eia.gov/electricity/data/browser/

EIA Data: http://www.eia.gov/electricity/data/browser/

C.     Will Natural Gas Prices Fall Too?

As natural gas produces an increasing proportion of electricity in the United States, it should more tightly correlate to electricity prices. The challenge to making sense of historic natural gas prices are the massive disruptions caused in 2005 from Hurricane Sandy, and in 2009 in the wake of the world economic crises.

What appears to be happening is that natural gas is hitting a more cyclical pricing swing that mimics electricity pricing based on increased summer demand (see Monthly Oil, Natural Gas and Electricity Prices above). As natural gas continues to be the effective price-setter for electricity markets, this cyclicality should increase. This is also borne out by examining a linear trend line for natural gas and electricity, both of which run in parallel between 2003 and 2010, with natural gas prices increasing slightly more quickly.

Generally speaking, natural gas prices are decreasing over the long-term. In December, natural gas prices fell below $3 per million BTU for the first time in 2-3 years. Many believe this trend will continue long-term because supply continues to expand (both within the U.S. and globally). Additionally, one of the largest consumers of natural gas in the world, Japan, may be moving towards reintroducing nuclear (reduced demand for natural gas will mean reduced prices). In the short-term, natural gas transportation constraints in the Northeast mean consumers without fixed rate contracts will be exposed to price swings like those that occurred in the polar vortex in 2014.

As natural gas prices fall, and they will, this fuel will play an increasingly important role in electricity markets. This will primarily put pressure on the coal industry, as it has, and means a continued shift from coal to natural gas. The single largest challenge for the natural gas industry is building the transportation network to transport the gas, and the production units to produce the electricity. Another challenge is the extreme price volatility of gas, because it both heats homes and produces electricity, and those two can be in tension.

The natural gas industry will likely take years to build the infrastructure to address these challenges, years in which both solar and wind will become more cost effective. The likely outcome is that a combination of these technologies, in concert with storage, will drive cost reductions and innovation in concert for the electricity markets.


In sum, the sources of electricity have become more diversified across several sources, old and new, including solar. The future will be a race among these sources to maximize efficiency and offer lower prices, a race that solar and natural gas are winning at the moment. Oil isn’t really in the race, primarily because it is being used for fuels, and not energy production.

Overall, low-cost oil is probably good for the U.S. It means a more thoughtful approach to drilling in sensitive environments; and it means Americans have a little extra change in their pocket. While solar stocks have indeed declined, and low oil prices appear (irrationally) to drive this decline, these declines could also be a natural adjustment to a segment of the stock market that has seen explosive growth. In the meantime, the fundamentals driving the solar industry, including scale, increasingly low costs of capital, and innovation, are solid, and solar will play an increasingly central role in producing America’s electricity and driving our energy independence. This is likely why even traditional energy companies like Shell expect solar to become a massive part of the global energy mix in the coming decades.

About Sol Systems

Sol Systems is a solar energy finance and investment firm. The company has facilitated financing for 171MW solar projects on behalf of Fortune 100 corporations, insurance companies, utilities, banks, family offices, and individuals. Sol Systems has $550 million in assets under management as of October 2014. Sol Systems provides secure, sustainable investment opportunities to investor clients, and sophisticated project financing solutions to developers. The company’s tailored financial services range from tax structured investments and project acquisition, to debt financing and SREC portfolio management. Inc. Magazine named Sol Systems on its annual Inc. 500 list of the nation’s fastest-growing private companies for a second consecutive year, ranking it No. 6 in the nation’s top solar companies in 2014. For more information, please visit www.solsystemscompany.com.


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Yuri Horwitz

Yuri Horwitz